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Aquamarine Fund
Annual Percentage Appreciation 2
Management’s Letter to Partners 3
Aquamarine Fund Assets Under Management 12
Investing Principles 19
Financial Statements 41-87
■ Aquamarine Master Fund, L. P. 41
■ Aquamarine Fund, Inc. 63
■ Aquamarine Value Fund, L. P. 77
Team Aquamarine 88
Table of Contents
Annual Report 2015
Aquamarine Fund
Annual Report 2015
2
2015 -16.0% 1.4% -17.4%
2014 5.5% 13.7% -8.2%
2013 34.9% 32.4% 2.5%
2012 27.8% 16.0% 11.8%
2011 -3.1% 2.1% -5.2%
2010 19.2% 14.8% 4.4%
2009 39.3% 25.9% 13.4%
2008 -46.7% -36.6% -10.1%
2007 17.0% 5.5% 11.5%
2006 37.1% 15.6% 21.5%
2005 7.2% 4.8% 2.4%
2004 11.2% 10.7% 0.5%
2003 29.5% 28.4% 1.1%
2002 -1.6% -22.0% 20.4%
2001 1.9% -11.9% 13.8%
2000 21.4% -9.0% 30.4%
1999 -6.7% 20.9% -27.6%
1998 26.1% 28.3% -2.2%
1997* 2.5% 6.0% -3.5%
Aquamarine Fund | Annual Percentage Appreciation
Notes:
*1997 is based on September 15 – December performance. *Represents the performance of Class A Shares. Performance may differ depending on Class and Series.
We have selected the S&P Index because it is a widely known, well understood, and commonly used benchmark of performance. We could just as easily have selected the Dow Jones Industrial Average or the Morgan Stanley World Index which would have given a more favorable comparison. The vast majority of professional investors underperform the S&P Index. Similarly, we have ensured that the presentation of index returns includes the dividends, to ensure an apples-to-apples comparison. By the same token, the returns in the Aquamarine Fund are calculated net of all fees.
Aquamarine FundClass A Shares*
(1)
Year S&P 500 with Dividends Included*
(2)
Relative Results
(1) - (2)
Aquamarine Fund
3
Dear Partner,
INVESTMENT RESULTSIn 2015, the Aquamarine Fund returned
-16.0%, versus +1.4% for the S&P 500.
Since the fund’s inception in September
1997, our investors’ capital has
compounded at a rate of 8.9% annually,
versus 6.2% annually for the S&P 500.
The fund’s total return since inception is
376.4%, versus 202.4% for the S&P 500.
These figures are net of all expenses
and fees, so these are actual returns.
The numbers for the S&P 500 include
dividends, making this an apples-to-
apples comparison.
COMMENTARY In absolute terms, 2015 was the
Aquamarine Fund’s second-worst year
since its inception in 1997. (Our worst
year was 2008.) Since inception, the
fund has outperformed the S&P 500
by 174 percentage points. But last
year’s returns were disappointing and
2016 is off to a volatile start. As I write
this in February, the S&P 500 is down
about 9% for the year. In January 2016,
we were down 15%, in part because
one of our positions, Horsehead
Holdings, filed for voluntary Chapter
11 bankruptcy protection following a
sustained drop in zinc prices.
This is a challenging time, and it’s
painful to report these numbers to
you. But it’s important to emphasize
that this is also a time of considerable
opportunity. For value investors like
Aquamarine, these periods of market
disruption provide long-awaited
opportunities to pick up bargains
that can drive our returns for years to
come. Indeed, 2008 was extraordinarily
difficult, but the stocks we bought
during the financial crisis set us up for
the next six years of great returns. My
goal is to be counter-cyclical. It’s not
easy psychologically, but I strive to be
fearful when others are greedy and
greedy when others are fearful.
Management’s Letter to Partners
The explanations for this market
turbulence are well known. They include
slowing growth in China and elsewhere;
concerns that interest rates might rise;
falling commodities prices, with oil down
70% since September 2014; geopolitical
tensions; and a heightened aversion to
perceived risk. In reality, the economic
and psychological forces at play are so
complex (and largely ephemeral) that
the commentators don’t truly know
what’s going on. Nonetheless, there’s a
tendency among investors to use these
unreliable explanations to drive their
investment decisions.
Our goal is to step back from all this
noise, which pushes most investors
into emotional overdrive, and to focus
instead on what is unchanging and real.
We’re not seeking to make top-down
predictions about what is unknowable,
and we don’t want to make reactive
decisions based on the latest news
headlines and commentary. Instead, we
are focused on attempting to identify
a few companies with sustainable
competitive advantages that are
available at attractive valuations.
It’s been a particularly tough period
for value investors, mostly because the
market was dominated in 2015 by a
handful of hot companies, including
Facebook, Amazon, Apple, Netflix, and
Google/Alphabet. As Seth Klarman has
noted, the ten companies in the S&P 500
with the largest market caps returned
nearly 23% in 2015; the other 490
companies fell by an average of 3.5%.
The S&P 500’s positive return concealed
what Klarman described as a “stealth
bear market” for most stocks.
This kind of narrow, bifurcated market in
which only a few stocks do well is typical
of the late stages of a bull market. A key
difference between, say, 1999 and now
is that today’s market-leading stocks are
real businesses that are truly changing
the economy and the way we live. Still,
their valuations appear in most cases
to be way beyond what’s justified by
the quality of the businesses. It’s worth
remembering that a once-loved blue
chip like Microsoft has gone nowhere
in a decade; some of today’s darlings
could suffer a similar fate. Still, fear
and confusion are so widespread that
investors are acting irrationally, buying
whatever is up and selling whatever is
down. I can’t predict when this cycle
will turn, but I’m confident that these
disparities won’t last.
In the meantime, it’s important to
remember that our long-term success
depends on our ability to remain
calm, rational and value-focused in
these periods of extreme irrationality,
rather than chasing after whatever is
Annual Report 2015
4
Management’s Letter to Partners
temporarily popular or abandoning
whatever is temporarily unpopular. I’m
reminded of the tech bubble in 1999
when we built our huge position in
Berkshire Hathaway at a time when it
was widely reviled; it has since risen more
than four-fold and is still our largest
holding.
The current turmoil is certainly
uncomfortable, but it creates precisely
the type of mispricings that we depend
upon in our search for undervalued
assets. With $20 million in cash in
early 2016, the fund is extremely well-
positioned to take advantage of any
opportunities we can seize. I’m happy
to report that we’ve also been receiving
additional money from new investors in
2016. I’m fully engaged and focused on
taking advantage of the opportunities
now presenting themselves, and I’m
mindful of my responsibility to you to
make the most of them.
A few months ago, I acquired a modest
position in a branded goods company
with a powerful domestic brand and
extraordinary growth prospects. It has
some similarities to previous successful
investments we made in entrenched
consumer companies like Weetabix
and Alaska Milk. I’m now actively
analyzing various opportunities to invest
in superior businesses in the U.S. and
Europe that I would like to own for many
years. Indeed, in recent weeks, I have
bought two more stocks in the U.S.,
using the market turmoil in February
to upgrade the quality of our portfolio
by investing in companies that would
usually be too expensive for us to buy.
I’m treading carefully, wary of making a
mistake. But I’ve been looking intensively
at potential opportunities in areas as
diverse as energy, technology, transport
infrastructure, consumer goods, and
financial services. Part of the challenge
THE CURRENT MARKET TURMOIL IS CERTAINLY UNCOMFORTABLE,
BUT IT CREATES PRECISELY THE TYPE OF MISPRICINGS THAT
WE DEPEND UPON IN OUR SEARCH FOR UNDERVALUED ASSETS.
Aquamarine Fund
5
is that I’m seeing attractive bargains,
but nothing as grossly undervalued as
it was in 2008; and many of the better
quality stocks have not been that badly
knocked down. I’m also slightly gun-shy
after this difficult period, so I’m even
more sensitive than usual about the
possibility of taking excessive risks. Still,
I believe that it’s now time to be more
greedy than fearful. As I look at my
peers – some of the calmest and most
rational value investors — I’m struck by
the fact that they themselves are rattled.
Paradoxically, I take it as a positive
sign when even that group is feeling
unsettled.
I’ve also been carefully re-examining
several major holdings in our portfolio
to assess whether or not the market is
right to have marked them down. As
I’ve mentioned in the past, we have
large positions in the automobile
and financial services sectors, both of
which have been hit by speculation
that technological change will disrupt
these businesses and weaken their
moats. There’s talk of banks being
Annual Report 2015
6
Management’s Letter to Partners
IT’S EASY TO GET SPOOKED INTO BELIEVING THAT THE DISRUPTERS
WILL RULE THE WORLD AND THAT THE GAME IS ALREADY OVER. ON
THE CONTRARY, THE MORE I ANALYZE OUR BUSINESSES,
THE MORE I BELIEVE THEY ARE AS LIKELY TO BENEFIT
FROM TECHNOLOGICAL CHANGE AS TO BE HURT BY IT.
Aquamarine Fund
7
out the possibility of long-term creative
destruction. Certainly, the management
of our companies will need to adapt
intelligently to retain their lead.
In the meantime, I have no doubt that
this is a moment when paying calm,
careful and deliberate attention to the
changing investment landscape can
have a tremendous payoff. It’s a time
of enormous opportunity, and I’m
determined to make it count. All of my
own money is in the fund and my family
is the largest shareholder in the fund.
POST-MORTEM 1: HORSEHEAD HOLDINGSHorsehead Holdings was the biggest
contributor to our losses in 2015. In
early 2016, the company entered a
voluntary Chapter 11 restructuring
process. The current situation is
complex and fast-changing. Suffice
it to say, I’ve been doing everything I
can to ensure that the equity investors
are treated fairly in the restructuring
process, not least by spearheading
efforts to form an equity committee
to prevent all of the company’s assets
from being grabbed on the cheap by its
bond holders. There is still much to play
for, given that Horsehead has extremely
valuable assets and is likely to thrive
again once the restructuring is complete.
The company’s short-term prospects
disintermediated, of credit card
companies facing threats to their
networks, and of auto manufacturers
being hurt by innovations such as
driverless and electric cars. I wanted to
figure out how genuine or imminent
these threats might truly be.
These technological developments
have been so heavily hyped by Silicon
Valley and the media that it’s easy
to get spooked into believing that
the disrupters will rule the world and
that the game is already over. On
the contrary, the more I analyze our
businesses, the more I believe they are
as likely to benefit from technological
change as to be hurt by it. I think our
banking and credit card stocks can profit
greatly from developments in financial
technology. Likewise, our two auto
stocks are deeply entrenched businesses
with huge competitive advantages;
they should do extremely well in the
coming years, and they are both very
undervalued. The market is focused
solely on the potential threats to their
moats, but there are real opportunities
for these car makers to incorporate these
technologies in ways that provide them
with remarkable tailwinds.
That said, these technological risks and
uncertainties do exist, even if they’ve
been overplayed, and it’s not wise to rule
were derailed by the very worst of
circumstances. But in terms of the long-
term valuation of the business, nothing
has changed.
Our investment in Horsehead was made
for all of the right reasons. The company
has an excellent business model and
first-rate technology, which originally
involved taking a byproduct of recycled
steel and using a smelter to produce
marketable zinc. This cost-effective and
environmentally-friendly process enabled
Horsehead to become the largest and
lowest-cost recycler of zinc in the U.S.
We bought the stock in 2012 at an
average price of about $10 per share and
doubled our money by 2014.
Ironically, Horsehead’s troubles
began with the decision to replace
its smelter-based technology with a
superior electrolytic process. When
run at capacity, this new process will
be lower cost and cleaner. But the
company’s new plant in North Carolina
experienced costly delays and has not
yet run at capacity. To tide it over,
Horsehead raised capital through debt
and equity financing. These setbacks
would normally have been no more
than a temporary frustration. But
the price of zinc collapsed in 2015,
producing the perfect storm. Strangely,
Horsehead’s bankruptcy didn’t result
from running out of cash. Rather,
there was a technical default on a
small line of credit from Macquarie
Bank; Macquarie froze Horsehead’s
bank accounts, which triggered the
bankruptcy — shortly before zinc prices
finally rebounded. I believe Horsehead
didn’t need to be thrown into
bankruptcy, given that its last audited
balance sheet showed assets in excess
of $1 billion, equity in excess of $400
million, and over $30 million in cash.
When I write these post mortems each
year, I try both to explain our investment
approach and also to draw practical
lessons from any mistakes I’ve made. In
the case of Horsehead, this isn’t easy,
either emotionally or intellectually. At
some level, the company’s dramatic
shift from success story to bankruptcy
was a black swan event. There’s some
element of sheer bad luck here that is,
unfortunately, a part of investing.
I would never have predicted that zinc
prices would plunge below the marginal
cost of production and remain there for
so long, given that global zinc supplies
were tight and that demand was steady.
And I would never have predicted that
Horsehead would have such trouble
getting its plant up and running, given
that there are four similar plants in
other parts of the world. Simplistic as
Annual Report 2015
8
Management’s Letter to Partners
Aquamarine Fund
9
Comparison of changes in $100,000 invested
Comparison of changes in $100,000 invested
$100,000
$150,000
$200,000
$300,000
$300,000
$450,000
$400,000
$600,000
$0
$0
12/0
0
12/0
5
12/0
0
12/9
9
12/0
1
12/0
9
12/0
7
12/0
3
12/1
1
12/0
6
12/0
2
12/1
0
12/9
8
9/97
12/9
7
12/0
8
12/0
4
12/1
2
12/1
3
12/0
5
12/0
1
12/0
9
12/0
7
12/0
3
12/1
1
12/0
6
12/0
2
12/1
0
12/0
8
12/0
4
12/1
2
12/1
3
12/1
4
12/1
512
/15
12/1
4
Aquamarine Fund Inc.S&P 500
Aquamarine Value Fund L.P.S&P 500
Aquamarine Fund Inc.
Aquamarine Value Fund L.P.
Annual Report 2015
Performance Relative to the S&P 500 Index
it might sound, this is a reminder that
many more things can go wrong with
an investment than we can possibly
imagine and that the markets will
occasionally produce bizarre situations
that defy logic — hence the need to
diversify and to require a significant
margin of safety as an insurance policy
against bad luck or misjudgment.
In retrospect, I made one serious
mistake with Horsehead that I’m
determined not to repeat. I saw its debt
rising a year ago and failed to recognize
how vulnerable this could make the
company in extreme circumstances.
Knowing the vicious nature of leverage, I
should have been more sensitive to this
increased risk. To avoid repeating this
error, I’m in the process of creating an
“in-flight” investment checklist, which
includes these two questions: has the
company we own taken on new debt,
and have its leverage ratios changed
significantly? If a company hits one of
these tripwires, it may not be necessary
to sell, but I need to monitor these
growing risks carefully on a daily or
weekly basis. We’ve typically done best
by operating as patient, buy-and-hold
investors. But in a dynamic situation like
this, I have to be open to the possibility
of getting out quickly.
After several years of strong returns,
there’s also a tendency to become more
concentrated and less risk averse. To
guard against the risk of overconfidence,
I intend to limit new positions to
5-7% of our portfolio at the time of
purchase. I’m glad that I avoided
buying more shares of Horsehead as
the stock plummeted — one benefit
of the fact that I am, by nature, a
relatively cautious investor. Even so,
our position should have been smaller.
As Sir John Templeton warned, “Even
the best portfolio manager is not right
more than 65% of the time.” I need to
avoid being overly concentrated, given
that investing is an imperfect science,
that I will inevitably make my share of
mistakes, and that there is always the
possibility of black swan events.
In this case, Horsehead should have
been no more than 3% of our portfolio
at purchase, whereas our initial position
was around 7%. In part, this was
because the fund’s success had led me
to believe that we could occasionally
afford to make bigger bets that could
potentially pay off hugely. There was —
and is — plenty of upside potential with
Horsehead: if zinc prices were strong
and the plant operated properly, the
company would generate hundreds of
millions of dollars a year in EBITDA. But
I was lulled into a false sense of security
about the possible risks. It wasn’t just
Management’s Letter to PartnersManagement’s Letter to Partners
Annual Report 2015
10
that the financial leverage was growing.
Horsehead was also highly sensitive to
two key variables — a sharp move in zinc
prices and its make-or-break project to
build the new plant.
An investment with these “spiky” risk
characteristics needs to be viewed
very differently than, say, a Berkshire
Hathaway or a Nestlé, which have
been dependable, core holdings of
ours for many years. These diversified,
high-quality companies tend to grow
fairly steadily and to be somewhat
anti-fragile. In a slow and relatively
sedate way, they keep getting better.
By contrast, Horsehead’s operating
leverage, financial leverage and sensitivity
to zinc prices accentuated both its
upside and its downside. It was the
investing equivalent of an incredibly
unforgiving hole on a golf course with
sand traps and water guarding the
green. Based on that risk profile, a 3%
initial position would have been more
appropriate. What’s more, when the
plant was being delivered and there was
much exuberance about Horsehead’s
future, I should have taken some or all
of our money off the table. Given that
the market swings between extremes of
exuberance and despair, I need to pay
close attention when the pendulum has
moved too far in either direction.
Aquamarine Fund
11
I MADE ONE SERIOUS MISTAKE WITH HORSEHEAD THAT I’M
DETERMINED NOT TO REPEAT. I SAW ITS DEBT RISING A YEAR
AGO AND FAILED TO RECOGNIZE HOW VULNERABLE THIS COULD
MAKE THE COMPANY IN EXTREME CIRCUMSTANCES. KNOWING THE
VICIOUS NATURE OF LEVERAGE, I SHOULD HAVE BEEN MORE
SENSITIVE TO THIS INCREASED RISK.
Annual Report 2015
12
Aquamarine Fund | Assets Under Management
($ in millions)
$200
$100
$150
$50
$0
12/9
7
12/0
5
12/0
1
12/0
9
12/9
9
12/0
7
12/0
3
12/1
1
12/9
8
12/0
6
12/0
2
12/1
0
12/0
0
12/0
8
12/0
4
12/1
2
12/1
3
12/1
5
12/1
4
POST-MORTEM 2: RAFFLES EDUCATION CORPORATIONStarting around 2003, we made a
string of successful investments in
the for-profit education sector. I
focused on post-secondary education
because I was struck by the compelling
economics of the business. Decisions
about college typically come at a time
when students (and their parents)
feel intense uncertainty about their
future. College offers a last chance
to get a great start in life, so brands
and reputations count. It’s a bit like
buying an engagement ring. Given all
the uncertainties, as Warren Buffett has
quipped, you don’t just want to go for
the low bid.
This factor has a powerful impact on
the economics of the business. Price is
equated with quality in the consumer’s
mind, and demand actually increases
as prices rise. Consider the value of a
place at the top 20 private colleges in
the U.S. They continue to raise prices,
yet demand never suffers because the
perceived value of these brands on a
graduate’s resume is so high. I was
also struck by studies showing that
the lifetime value of a college degree
was more than $1 million in terms of
earnings power, dwarfing the cost of
even the priciest college degrees.
After extensive research, we invested
heavily in two U.S. education
companies, EVCI and DeVry. Both
proved to be extremely profitable
investments. Thankfully, I sold them
before the Obama Administration came
to power and created a far less benign
environment for the for-profit education
sector in the U.S. Meanwhile, I also
expanded my search internationally,
visiting education companies in India,
the Philippines, Oman, and Singapore.
In Raffles Education Corporation, I
found a business that met all of my
criteria. Headquartered in Singapore,
Raffles was rapidly expanding its
offerings around Asia, tapping into the
aspirations of a growing middle class
that was eager to provide its offspring
with the best possible start. My due
diligence took me to the company’s
campuses in Singapore, Mumbai,
Shanghai, and Chongqing. I saw how
its energized management team applied
a similar formula in each new market,
producing graduates whose reputable
degrees, good English skills and global
outlook attracted many employers.
I invested 5% of the fund’s capital
in Raffles, and the stock ran up six-
fold in less than two years. Given its
lofty valuation, I sold most of our
shares, pocketing an enormous profit.
Aquamarine posted a return of 37% in
Aquamarine Fund
13
Management’s Letter to Partners
2006, largely thanks to this investment
in Raffles. Then, during the financial
crisis of 2008-09, the stock nosedived,
along with many other stocks in
emerging markets. I bought back what I
had sold at about half the price.
Raffles continued to expand
dramatically, opening campuses
in Jakarta, Bangalore, New Delhi,
Ahmedabad, Chennai, Hyderabad,
Kolkata, Phnom Penh, Colombo,
Dhaka, and Manila. But the company
changed its asset-light strategy,
acquiring a huge complex in Tianjin
called Oriental University City. This
made Raffles the owner of a large piece
of Chinese real estate and a number
of colleges in the national education
system (as opposed to China’s private
education system). I wasn’t that
comfortable with this intensified focus
on China or the potential for Oriental
University City to eat up capital. But
I respected the company’s CEO and
largest shareholder, given what he’d
achieved in building the business and
the returns he had delivered to us.
This admiration led me, for a while, to
discount a decline in the company’s
quality of earnings. Instead of
generating cash from its core business,
Raffles increasingly reported earnings
and cash generated by selling off pieces
of the Oriental University City campus.
At the same time, student growth fell
off, partly because China’s education
system was restructured so that parents
found it more attractive to use public
universities. My analysis was that,
even if the Chinese business did not
work out, Raffles had an extraordinary
business in the rest of Asia. In reality,
these other businesses didn’t deliver
the level of growth I had expected, and
the accounting standards continued to
decline. So, in 2015, I sold almost all of
our shares. In all, we made three times
our money in Raffles. But we would
have had a six-fold return had I not
reinvested in the company.
As with Horsehead, Raffles strayed
significantly from what had previously
worked — in this case, with its costly
expansion in China. I’ve added another
question to my checklist, which would
have helped in both cases: has the
company made a large investment in
a plant or other business where the
economics are untested or which may
take a long time to work out? In the
past, I mainly used my investment
checklist before buying a stock. But I’ve
come to realize that I also need to make
better use of an “in-flight” checklist to
conduct formal, hard-nosed reviews
of our holdings at regular intervals. As
Charlie Munger has said, we always
Annual Report 2015
14
Management’s Letter to Partners
need to be wary of “boiling frog
syndrome,” whereby we fail to notice
tiny, incremental changes in a business.
Using an “in-flight” checklist on a
regular basis would have helped me to
recognize sooner that debt levels were
rising insidiously at Horsehead and that
accounting standards were declining
quite rapidly at Raffles. I should not
have accepted this deterioration in the
quality of earnings at Raffles and should
have moved swiftly to sell the stock,
instead of watching as it drifted down.
It’s also important for me to recognize
that different types of company require
a different mindset. With a Nestlé or
a Berkshire, it’s okay to have some
degree of inertia. In fact, it’s typically an
advantage, since my patience gives these
superior businesses time to compound
over many years or decades. But with a
company like Raffles or Horsehead, you
can’t afford to take this patient, hands-
off approach. With every investment,
I need to ask myself if it’s truly a core
position that we can hold indefinitely
(or permanently), or if it’s a shorter-
term opportunity to bet on a less stellar
company whose stock is temporarily
mispriced. In recent years, we did very
well in some shorter-term plays like
London Mining and Chesapeake Energy,
which I bought when they were extremely
cheap, rode to recovery, then sold before
they ran into trouble again. With Raffles,
I should have done the same thing,
instead of trying to convince myself that
it was a better business than it really was.
Part of the problem is that it’s easy to
believe you have the magic touch when
you’ve just made six times your money
on a stock. Perhaps you’re so smart that
you’ve discovered the next Buffetesque
CEO! This is why it’s so important
to be brutally self-aware and to work
constantly at managing myself.
As always, my goal is to learn these
expensive lessons well and to adjust my
investment process accordingly. That
way, this hard-earned knowledge can
benefit us considerably in the future.
Please note that I’ve updated and
significantly expanded the investing
principles section of this annual report,
which begins on page 19; it now does a
better job of reflecting what I’ve learned
about what works and doesn’t work.
I hope you will find it helpful in terms
of understanding the thinking that
underlies the fund. It also reflects the
fact that this is a dynamic process and
that I am constantly learning.
ORGANIZATIONAL AND REGULATORY UPDATE In last year’s letter to shareholders,
we reported that we had submitted
Aquamarine Fund
15
the Financial Market Supervisory
Authority (FINMA) registration for
our Swiss entity, Aquamarine Zurich,
in February 2015. We also reported
that we were grappling with the data
required for FATCA submission. And
we reported that we had put in place
rigorous SEC compliance and ethics
procedures and testing programs for
Aquamarine’s U.S. operations. Since
then, we’ve made good progress on
all three of these organizational and
regulatory fronts.
In September 2015, FINMA granted
Aquamarine Zurich a license as an Asset
Manager for Collective Investment
Schemes, with a six-month grace period
to adopt all of the changes detailed
in our application. We are currently
working on that process, which involves
the appointment of three new directors
and a robust risk management and
compliance function for Aquamarine
Zurich. As for the SEC, they sent us a six-
page request for information in October
2015. Orly Hindi, our Chief Compliance
Annual Report 2015
16
Management’s Letter to Partners
I’M DETERMINED TO ADHERE TO THE TIME-TESTED DISCIPLINE
OF INVESTING IN SUPERIOR COMPANIES AT ATTRACTIVE
PRICES AND HOLDING THEM FOR THE LONG TERM, WHILE
TRYING AS MUCH AS POSSIBLE TO TUNE OUT THE SHORT-TERMISM
AND NOISE THAT LEAD MOST INVESTORS TO UNDERPERFORM.
Aquamarine Fund
17
Officer, sent them everything they asked
for. It took an entire week to gather all of
the information. But we were pleased to
see the benefits of the strong compliance
process we had put in place over the
previous 18 months.
Meanwhile, we were grateful that
our investors sent us the requisite tax
forms to allow us to file for FATCA on
time. We were able to report that all
of our investors for both the onshore
and offshore fund were appropriately
qualified to invest in their respective
fund. As a result, we were not
required to submit any investor names
to the regulators.
Another positive organizational
change was the establishment of a
new relationship with Northern Trust
as our Custodian in June 2015. We’ve
retained an excellent relationship with
Credit Suisse and UBS, which both
remain as service providers to the fund
in the banking and brokerage arena. We
have also established a new brokerage
relationship with Interactive Brokers.
Looking ahead, we anticipate more
compliance requirements in Europe,
with the U.K. and OECD Common
Reporting Standards both scheduled to
kick in this year. We are also looking at
introducing a new class of shares that
will be designated with U.K. Reporting
Fund status. This may have certain tax
advantages for U.K. investors.
SUBSCRIPTIONS, REDEMPTIONS, AND NET NEW CAPITALIn 2015 we received new subscriptions
for $16.3 million, of which $15.8
million came from 19 new partners.
Welcome! We also received redemption
requests of $5.8 million, of which $2.5
million was for complete withdrawals
by seven shareholders in the fund. I’m
always sorry to see shareholders go,
but life circumstances change and I’m
delighted that these investors have done
well in the fund.
LOOKING FORWARDSince the fund’s inception 18 years ago,
we’ve experienced our fair share of ups
and downs. The challenges we’ve faced
have included the reverberations of
the Asian financial crisis; the tech and
Internet bubble of the late ‘90s, when
most value investors lagged the market
by a huge margin; the subsequent tech
crash; the bursting of the U.S. housing
bubble; and the worst financial crisis
since the Great Depression. These have
certainly been eventful times. Along
the way, I’ve made plenty of mistakes,
but I’ve also steadily improved by
methodically learning from them and
refining my investment process. Having
recently turned 50, I’m heartened by
the fact that investing is one field where
we can continue to get better with age,
experience, and effort.
Despite my own flaws and the many
bumps in the road, the Aquamarine
Fund has outperformed the indexes by a
wide margin. That’s a testament to the
enduring power of the value investing
approach, which is best exemplified by
investors like Warren Buffett and Charlie
Munger. It’s an approach that works
remarkably well over the long run, even
though it falls out of favor from time
to time. I’m determined to adhere to
the time-tested discipline of investing in
superior companies at attractive prices
and holding them for the long term,
while trying as much as possible to tune
out the short-termism and noise that
lead most investors to underperform.
I’m confident that this approach will
serve us well in the future, just as it has
served us well in the past. Now is not the
time to change course.
It’s important also to note that our
interests are truly aligned. My family
(including my mother and father,
my sister, my uncle and my aunt) are
the largest shareholders in the fund;
all of my own money is invested in
the fund; and many close friends are
partners in the fund. Aquamarine is
also intentionally structured so that I’m
rewarded only if the fund’s shareholders
do well. A significant portion of the
assets are in a share class where there
is no annual management fee and
where I receive 25% of the profits only
after clearing the hurdle of a 6% annual
return. In other words, I don’t make
money unless my partners in the fund
make money. A tough year like 2015
rightly inflicts a real measure of financial
pain on me personally.
I feel very fortunate to have a stable and
steadfast base of partners who have
invested in the fund for many years. This
stability has helped us to ride through
the challenging periods and to profit
from the buying opportunities they
provide. Thank you for your trust and
confidence.
Sincerely,
Guy Spier
Annual Report 2015
18
Management’s Letter to Partners
1 | Harness The Miracle of Compounding 21 2 | Don’t Lose Money 21 3 | Avoid Leverage 22 4 | Play Center Court 22 5 | Pay Attention to Incentives 23 6 | Work With Great Partners 25 7 | Buy Better Businesses At Bargain Prices 27 8 | Make The Market Your Servant, Not Your Master 28 9 | Act Counter-Cyclically 29 10 | Tread Carefully Around Salespeople 30 11 | Use A Checklist 32 12 | Rub My Nose In My Mistakes 33 13 | Don’t Talk About Current Investments 33 14 | Construct The Right Environment 34 15 | Don’t Just Predict Rain: Build An Ark 35 16 | Be The Last Man Standing 38 17 | Keep Life Simple 39 18 | Embrace Adversity 39
Aquamarine Fund
19
INVESTING PRINCIPLES
I n 1996, Berkshire Hathaway issued its shareholders with
a booklet entitled “An Owner’s Manual.” Psychologically,
this was a powerful move, since various studies have
shown that by writing something down we increase the
probability of it happening. I wanted to set down a similar
list of principles and share them with my partners in the
Aquamarine Fund.
The goal here is not to be comprehensive. Rather, it is to
emphasize some important lessons that I’ve learned over the last
two decades that seem especially relevant to me and the fund’s
investors at this point. Based on what we know from Robert
Cialdini about the “commitment and consistency principle,”
it’s particularly helpful for me to write down these investing
principles and commit to them in this public manner. I will do all
that I can to live up to these principles, and I invite you to hold
me to them.
Annual Report 2015
20
Investing Principles
1 HARNESS THE MIRACLE OF COMPOUNDING
When it comes to investment results, many investors focus on what happened in the
past month, quarter or year. They might compare quarterly or annual results to an
index or to the results of other funds. Financially sophisticated investors may talk
about the search for alpha (a fancy way of referring to above-average returns) or the
pursuit of superior risk-adjusted returns. I pay as little attention as possible to these
metrics because they distract me from the true task at hand.
The only metric I find useful is thinking of long-term increases in net worth, or getting
the miracle of compound interest to work in our favor. The table below illustrates
the point that seemingly modest differences in the annual rate
of return can generate profound differences in the ultimate
gain over long periods of time. My goal is to compound
wealth at a high rate, while minimizing the risk of permanent
losses of capital. In order to keep my sights on the horizon, I
frame the investing challenge as follows: I seek to double the
Aquamarine Fund’s price per share as many times as possible
over the course of my investing lifetime.
2 DON’T LOSE MONEY
Another way to frame the investment challenge is to ask the following question: how
can I compound my partners’ wealth at the highest possible rate but in a manner
that minimizes the probability of a loss? As
the chart here illustrates, the more you lose,
the harder it is even to get back to where
you started. Big losses are a real killer. Or, as
Warren Buffett has said: “Rule No. 1: NEVER
LOSE MONEY. Rule No. 2: NEVER FORGET
RULE NO. 1.”
Initial Loss Gain Required to Be Whole
10% 11% 25% 33% 40% 67% 50% 100%
Investment Result - As a Multiple of Original Investment
Years of Rate of Operation Return
7% 12% 18% 20 4 10 27 40 15 93 750 60 58 898 20,555
Aquamarine Fund
21
3 AVOID LEVERAGE
The fastest and most effective way to violate Buffett’s “never lose money” rule is to
take risks with capital that we don’t already own. Thus, I don’t lever the portfolio,
and I also seek to avoid overly leveraged investments. There’s nothing wrong with
getting rich slowly — especially if trying to do it rapidly could end badly, which it often
does. I’m reminded of Buffett’s comments about the implosion of Long-Term Capital
Management: “Whenever a really bright person who has a lot of money goes broke,
it’s because of leverage…. It’s almost impossible to go broke without borrowed money
being in the equation.”
However, as I’ve come to realize, there is also the risk that leverage can seep slowly
and insidiously into our portfolio without me taking sufficient notice — for example,
when a company that has performed well for us gradually increases its debt levels.
Charlie Munger warns of “boiling frog syndrome,” which is the tendency not to
recognize tiny, incremental changes until it’s too late. Given the vicious nature of
leverage, I need to monitor such changes closely and be ready to exit a stock in a
hurry if the risk level has escalated. On the whole, I look to hold stocks for many
years, avoiding the temptation to trim our winners. But when leverage has risen
within a company, I have to be more willing to sell.
4 PLAY CENTER COURT
Donald Keough, who was president of Coca-Cola and a board member at Berkshire
Hathaway, provided an enlightening discussion of ethics in his book The Ten
Commandments for Business Failure. One problem with playing the game close to the
foul line, he explained, is that the foul line moves around. AIG and the Greenberg
family discovered this in the realm of insurance. When the foul line was moved by
Eliot Spitzer, they found themselves on the wrong side of it. Due to the uncertainty
as to where the foul line actually is, playing close to it is a perfect example of how
Annual Report 2015
22
Investing Principles
Aquamarine Fund
you can expose yourself to the possibility of low-probability outcomes with extreme
consequences.
Another benefit of playing center court is that it usually doesn’t require vast amounts
of expensive input from lawyers, accountants, and other high-priced advisers.
Accountants and lawyers often don’t like it when their clients play center court, since
people who push the boundaries tend to generate higher fees.
Keough passed away in 2015, but his wisdom will no doubt remain as useful and
relevant as ever. “There is no such thing as business ethics,” he wrote. “Just ethics. It’s
not separated from the rest of your life.”
5 PAY ATTENTION TO INCENTIVES
Charlie Munger once said that while he has certainly understood the paramount
importance of incentives in human behavior, even he has grossly underestimated their
importance. Many investment partnerships are run by managers who don’t have a
substantial personal investment in their own partnership and who work primarily
with other people’s money. This creates an incentive to maximize short-term
performance, and it ultimately leads to increased risk.
An important component of the set-up at Aquamarine is to make sure that my
incentives are appropriately aligned with the interests of my shareholders. The
overwhelming majority of my family’s wealth is invested in the Aquamarine Fund,
and virtually all of my own money is in the fund. This creates a powerful incentive to
minimize the risk of loss. It’s also important to note that my family — including my
mother and father, my uncle and aunt, my sister and I — are all invested in exactly the
same vehicle as the fund’s other shareholders. Whatever the investment returns might
be, we’re partners in this venture and we’re all invested alongside one another in the
same vehicle.
This is also my only fund, so I can focus on it without distractions. I don’t intend ever
to launch another fund, since I like the idea of having one investment record for my
career. That way, it will be easy to see whether or not I’ve truly added value. Another
key component of our alignment of interests is the fund’s zero-management-fee share
23
Annual Report 2015
class in which I make money only if my shareholders make money.
It’s easy to identify the most egregious ways in which ignoring incentives can be
damaging. For example, I can take with a pinch of salt a barber’s suggestion that I
need a haircut. Similarly, I can steer clear of a sell-side broker who wants to churn
my account. However, here’s something harder to spot: consider an advisor who
is honest, hard-working, and truly desires the best for our fund. While the course
of action that he counsels is generally sound, it contains complications that could
lead to problems in extreme circumstances. He will naturally tend to discount the
downside (hey, it’s not his downside, and it might even lead to more work down
the road). My job is to recognize that downside. The advisor would certainly survive
the hidden but fatal flaw, but I might not. Indeed, someone with good intentions
and deep knowledge can still give dangerously flawed advice. While I might catch
the egregiously imperfect advice, I also need to be on guard for this kind of subtly
imperfect advice.
Over the years, a number of peers on the buy side have become a source of
invaluable insights on important business and investment decisions. We often
discuss particular companies, pooling our knowledge and exchanging opinions. But
even with these trusted friends, I need to be conscious of the subtle ways in which
incentives work. For example, someone who wants to convince me to buy a stock
might gain something psychologically from the validation this provides. Likewise,
I might be vulnerable to the fact that I have a strong tendency to want to be liked.
In other words, incentives are not just financial but psychological. It’s important
to maintain a balance here: I have to remain open to the insights of my peers
while never losing sight of the need to do my own due diligence and to retain my
independence of mind.
6 WORK WITH GREAT PARTNERS
During the financial crisis, several of Aquamarine’s shareholders redeemed their
partnership interests at the worst possible time, thereby locking in their own losses
and reducing our ability to buy stocks at extraordinarily cheap prices. This experience
taught me a lot about the importance of having the right partners. One way to
Aquamarine Fund
25
Investing Principles
ISTO
CK
_ NIK
AD
A
achieve this is to create the best possible structure for the fund, since this affects the
quality of the investors we attract. In our case, this means:
1. Providing a share class in which we charge no management fee —
only a performance fee.
2. Allowing only annual redemptions from the fund.
3. Communicating infrequently, but substantively, rather than
communicating often but with little more than rewarmed market commentary.
4. Avoiding roadshows and beauty contests designed to attract more assets.
Why are these rules important? With no management fee and only annual
redemptions, the fund attracts a group of sophisticated investors who have thought
carefully about equities and about what they are looking for in a money manager.
These investors tend to understand that I need to be able to think long term to do
my job well; my wondering who might want to redeem each and every quarter would
be a needless distraction. These investors also recognize that our fee structure (zero
management fee, and only a performance fee) is a substantial boon to good long-
term results — and that it’s fair. This fee structure reflects the fact that I want to make
money with my partners, not off them.
As for my preference for communicating infrequently but substantively, this is driven
by a recognition that I need to focus on investing, without the regular pressure of
having to look smart on roadshows or in other fundraising activities. Those activities
are a distraction and are inimical to good investment returns.
When it comes to investment research, I also work hard to develop great
relationships with a broad range of people who can help me to evaluate investment
ideas. As with attracting great partners, there are a few key rules:
1. Keep confidential the investment ideas that are shared with me.
2. Do not trade investment ideas sourced elsewhere until there is clear
permission to do so from the originator.
3. Never tell anyone what to do, but give thoughtful and value-added
feedback on ideas.
4. Always give credit when and where possible.
These are really just applications of Hillel’s advice: “What is hateful to you, do not do
to your neighbor.” The benefits of behaving decently are cumulative. Charlie Munger,
who is famously determined to act honorably at all times, has said: “How you behave
in one place will help in surprising ways later.”
Annual Report 2015
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Investing Principles
Aquamarine Fund
27
One of the great lessons I’ve learned throughout my career is that all business is
personal. The vast majority of the time, whenever I have gone beyond the call of
duty regarding someone’s well-being, it has resulted in all sorts of remarkable,
unexpected and fortuitous results for me. As Michael Eisner makes clear in his
book Working Together: Why Great Partnerships Succeed, perhaps the best way to find
a great partner is to be a great partner. That has been true for me in all areas of
my life, and it has been true of the people I admire most. Indeed, writing about
Munger, Warren Buffett once declared: “In 41 years, I have never seen Charlie try
to take advantage of anyone.”
7 BUY BETTER BUSINESSES AT BARGAIN PRICES
One of the hardest things for me to learn and truly internalize has been to see the
market as a pari-mutuel system, much like betting on a horse race. At the races, it’s
not that hard to identify the fastest horse that will most likely win the race on any
given day. However, that horse is unlikely to be the best bet, since the probability of
its winning will typically already be factored into the odds offered by the bookmakers.
The real skill is to find the mispriced bet — the horse whose chances of winning are
much greater than the odds suggest. This is much harder, and the opportunities to
place such bets are much rarer than most people think.
One benefit of extreme volatility is that it occasionally makes it possible to buy great
businesses when they are dramatically mispriced. Think of Buffett loading up on
American Express during the Salad Oil scandal in the 1960s or Munger piling into
Wells Fargo during the financial crisis when he saw what he later described as “a
once-in-40-year opportunity.”
Time is the friend of a great business. But if the business was purchased when it was
priced to perfection, it has as much potential to impair returns as a much weaker
business. Thus, the focus of my investment research is largely oriented towards
finding businesses that are mispriced, rather than identifying great businesses and
trying to justify paying a high price for them.
On those rare occasions when we can acquire them for an attractive price, my
preference is to buy the best businesses and then hold them indefinitely. As
Munger has said, “If you live in a small town and if you own a good car dealership,
McDonald’s franchise, the best apartment building in town, the highest-quality
office building in town, you are done.” Investing is hard and there are many things
I can miss in my analysis. But when we own better companies, life is more forgiving
and we can prosper while paying a little less attention. When we occupy this
economic high ground, our portfolio is less vulnerable to market downturns and to
my own misjudgments. My long-term goal is to upgrade our portfolio whenever the
opportunities arise to invest in superior businesses.
8 MAKE THE MARKET YOUR SERVANT, NOT YOUR MASTER
The constant movement of stock prices is a call to action. The brain also
experiences an emotional storm when we see that stocks or the market are
falling. I try to detach myself as much as possible from the market’s short-term
gyrations, so that I can invest in a more rational, measured and patient way,
buying stakes in companies that I can hold for years. I typically check the price of
my holdings no more than once a week; I leave my Bloomberg terminal switched
off for weeks on end; and I don’t have a TV in my office. Simple rules and
practices like these make it easier not to waste my willpower trying to resist the
market’s short-term calls to action.
As Ben Graham taught, we need to make the market our servant, not our master.
That means using it to our advantage by buying bargains when pessimism
reaches extreme levels and by reducing our risk exposure when the crowd is overly
exuberant. The key is not to be swept up in the crowd’s bipolar mood swings. If I
avoid checking stock prices on a regular basis, it’s easier for me to detach myself
from the price action of the market, which is liable to stir up my emotions and
cloud my judgment. Likewise, I have a rule that I can’t buy or sell stocks while the
market is open. This serves as a circuit breaker, so that I don’t act precipitously.
In my early days as a fund manager, I had an in-house trading desk, which
brought the market right into the heart of my office in a way that was distracting
and disruptive. Now, I place orders by emailing a broker after trading hours, so
Annual Report 2015
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Investing Principles
Aquamarine Fund
29
that we don’t even need to speak with each other directly. These simple strategies
make it somewhat easier to keep market noise at a safe distance.
9 ACT COUNTER-CYCLICALLY
The stock market — and much else in life — is highly cyclical. When times are tough,
it’s important to remember that they will get better again; when they’re great, it’s
prudent to bear in mind that they will get tough again. As an investor, I strive to be
counter-cyclical: broadly speaking, I want to buy when others are fearful and sell (or,
at least, reduce my risk exposure) when others are greedy.
This is easier said than done because the psychological forces at play are so powerful.
The fact that you’re intellectually aware of these forces doesn’t protect you from
them. For example, when the market is tumbling, self-reinforcing thoughts kick in
that tell you that the world may come to an end. Fear is contagious, and it’s easy
to get swamped by these intense emotions. Then, when everything is going well
and you’ve made handsome profits for years, it’s easy to start believing that you’re
brilliant and to slip into a state of hubris and overconfidence. There’s a terrible
vanity that can get into your head merely as a result of all this positive price action.
I’ve experienced this on more than one occasion, proving to myself that I’m far from
immune to these perils.
In the good times, the key is to reduce my risk, my leverage, my concentration, and
my bets on more aggressive industries. During bull markets, we tend to become more
concentrated in our favorite investment ideas. If I can’t bring myself to sell them, I
should at least force myself to become more diversified, since a diversified portfolio
will be less vulnerable when the cycle changes.
I’m increasingly focused on the idea of building counter-cyclicality into my life.
Certain investments — for example, Berkshire Hathaway — are counter-cyclical, which
helps. Berkshire is designed to be an anti-fragile business that is likely to prosper
in good times and bad, not least by buying undervalued assets amid the tumult.
Another aspect of being counter-cyclical is to surround myself with people who
think and act this way — and to be aware that certain relationships are pro-cyclical
and therefore more likely to be hazardous. If, say, a contrarian, risk-averse partner
in Aquamarine sells a significant portion of his shares after years of strong returns,
I need to take notice and ask myself if this is a useful sign that things are becoming
irrationally exuberant.
Likewise, it’s helpful to pay close attention to the words and actions of investors like
Warren Buffett, Charlie Munger, Howard Marks, Francis Chou and Seth Klarman,
who have a long and successful history of operating counter-cyclically. Part of the
gift of these investors is that they keep their egos in check and remain rational during
periods of euphoria. One safeguard against my own vulnerability to hubris and
overconfidence is to make sure that I take slightly less risk than the people I respect
and admire.
10 TREAD CAREFULLY AROUND SALESPEOPLE
The investment business is full of people trying to hawk ideas that serve their own
interests — bankers, brokers, sell-side analysts, CEOs, TV pundits, and others. In the
past, I found that I made lousy decisions when I bought what people were trying
to sell me, since our brains are not wired to make rational decisions when we are
confronted with a well-argued pitch from a gifted salesperson. So, I adopted a simple
rule: I don’t let myself buy anything that’s being sold to me.
This is one reason why I never participate in IPOs. When a company goes public,
Wall Street puts all of its mind-bending sales power behind it, creating a situation
that promotes poor decision-making. It’s also why I seldom read research produced
by sell-side analysts. As a long-term investor, my interests are in stark opposition to
the interests of Wall Street. What I need to do is invest in a few great but undervalued
businesses and then stay put, resisting the urge to trade. Wall Street is rewarded for
activity; my shareholders and I are typically rewarded for inactivity.
For similar reasons, I explained in my book that I had stopped speaking with
corporate management because these are skilled salespeople who often accentuate
the positive and discount the negative. In retrospect, I think that was a mistake. For
me, it’s mostly beneficial to meet with management, given that they are a critical
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Investing Principles
Aquamarine Fund
31
ISTOCK_ DEEJPILOT
piece of the overall puzzle that I need to understand.
That said, the order in which I gather information matters because the first idea that
enters the brain tends to have an outsized impact on our thinking. With this in mind,
I try to gather the most objective and unbiased data first (for example, by reading
the 10k and 10Q), so I can form my own ideas independently before speaking with
management. Once I have a clear understanding of the company, it makes sense to
visit its facilities and meet the management. On one occasion, a top executive was
unenthusiastic about me visiting his company’s new plant: I would have done well
to see this as a warning signal. In any case, the key isn’t to avoid management but to
structure the relationship correctly, so that it adds insight, not noise.
11 USE A CHECKLIST
Atul Gawande discusses this subject at length in his excellent book, The Checklist
Manifesto. Our minds are filled with all sorts of evolutionary quirks that seriously
degrade the rational decision-making ability of even the most intelligent investors. I
try to counter these tendencies by using checklists.
Before making any investment, I run the idea through a checklist that summarizes
as many known investment mistakes as possible — mistakes made in the past either
by me or by other money managers. I ask myself whether I might be committing the
same mistakes again. Using a checklist as a circuit breaker has prevented me from
making a number of bad investments. This method isn’t foolproof, but my experience
is that it has reduced my error rate dramatically. Most of the work on the checklist
was done by my great friend Mohnish Pabrai, and I am deeply grateful to him for the
collaboration.
My understanding of the power of checklists continues to grow. In the past, I
primarily used a checklist before making an investment in order to see what factors I
might be missing. More recently, I’ve also turned my attention to building an “in-
flight” checklist to help me monitor growing risks that may be developing within
companies that we already own. I believe this process of reappraising companies
that we own needs to be done in a regular, formalized manner. Otherwise, there is a
Annual Report 2015
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Investing Principles
psychological tendency to overlook these mounting risks, particularly in companies
that have performed well for us. My in-flight checklist includes questions such as
these: has this company we own taken on any new debt, have any of its leverage
ratios changed significantly, and has the price of a key raw material changed
significantly?
12 RUB MY NOSE IN MY MISTAKES
Even with a checklist, I’m still going to make my share of mistakes — partly because
investing is hard and the world is complex, and partly because of flaws in my own
idiosyncratic wiring. As Sir John Templeton observed, even the best investors are
wrong about a third of the time. This is a humbling business, and there are times
when I will inevitably look foolish.
When I do make mistakes, I’m committed to admitting them, analyzing them, and
learning from them. As Charlie Munger has said: “I like people admitting they were
complete stupid horses’ asses. I know I’ll perform better if I rub my nose in my
mistakes. This is a wonderful trick to learn.” At the same time, it’s not helpful to be
paralyzed by regret over mistakes. I need to understand what went wrong, be honest
about it, and then move on.
13 DON’T TALK ABOUT CURRENT INVESTMENTS
As the psychologist Robert Cialdini explains, we need to be careful about taking
public positions. Once we’ve made a public statement, the “commitment and
consistency principle” makes it difficult for us to back away from our position, even if
we have come to regret that opinion. With this in mind, I try to avoid walking into the
trap of making statements about any stocks that we currently own, since the
situation might later change or I might discover that I was wrong. This is why I prefer
Aquamarine Fund
33
not to discuss our current investments in public settings such as annual meetings,
shareholder letters, and media interviews.
Occasionally, I’ve violated this rule when I thought it was particularly important to be
candid with the fund’s partners about a particular situation. For example, during the
financial crisis, I made it clear that I was finding extraordinary opportunities to buy
cheap stocks like Cresud and London Mining. Then, in early 2016, I sent a letter to
shareholders to explain my thinking about how we were positioned to take advantage
of an unusually turbulent market; I mentioned one company by name and alluded to
our investment in two unnamed car companies. One partner in the fund responded
by firing off an emotional email telling me that I should stick with “nice staple goods
companies” and “rest in peace.” I can understand any investor being upset when
I’ve lost some of their hard-earned savings. But discussions like these tend to be
counterproductive, creating psychological conditions in which it’s harder to make
dispassionate decisions. Overall, the fund will do better if I try to exercise my best
judgment in a state of quiet, calm detachment.
14 CONSTRUCT THE RIGHT ENVIRONMENT
After the financial crisis, I moved from New York to Zurich, where I set about
constructing an environment in which I could think and invest more rationally. The
goal wasn’t to become smarter: it was to build an environment in which my brain
wouldn’t be subjected to such an extreme barrage of distractions, expectations,
greed, envy, and other destabilizing forces that were likely to exacerbate my own
irrational tendencies. This reflects my belief that managing the non-rational part of
my brain is an integral part of managing my investment portfolio.
It helps me to work in an environment that is serene and even slightly boring. The
fact that Zurich is physically detached from Wall Street also makes it easier to think
for myself and go against the crowd. It’s no coincidence that some of the greatest
contrarian value investors located themselves far from Wall Street: Warren Buffett
works out of a nondescript office building in Omaha; Sir John Templeton settled in
the Bahamas; Seth Klarman works out of an unflashy office in Boston.
As I discussed in my book, I’ve also tried to tilt the odds of success in my favor by
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Investing Principles
constructing my immediate work surroundings in ways that encourage me to think
and act calmly, instead of reacting impulsively to the short-term movements of
the market. My office has a “busy” room with several computer screens; I placed
my Bloomberg terminal there on an adjustable-height desk and positioned it so
that I’d have to stand to use it — a practical way of ensuring that I wouldn’t spend
hours subjecting myself to a fire hose of information that might lead me to act
too frequently or too emotionally. Instead, I spend as much time as possible in my
library down the hall, where it’s easier to shut out the noise, without any access to
flashing screens.
I still believe that it’s extremely helpful to create the right physical environment. But
I’ve come to realize that it’s even more important to nurture the right relationships
as a means of constructing a stable emotional environment. Nothing matters more
than having a happy relationship with my wife, my kids, my parents, my closest
friends, and my colleagues. They play a crucial role in supporting me during difficult
times, and they can also help me to see when my moods might be getting out of
kilter. I’m not impervious to the emotional swings of the market. So it’s important
to have people in my life who can tell me if I’m at risk of getting overconfident when
everything is on the rise or if I’m becoming too fearful and despondent in times of
extreme volatility.
There are immeasurable benefits to structuring my life so that the right people are in
my inner circle. To cite just one example, Aquamarine’s COO, Mark Chapman, has
taken on a formal responsibility for helping me to create better risk-management
procedures. Investors often complain about companies that have weak governance.
But what about my own governance? I’m committed to improving it by ensuring that
I have the right people in my environment. Nurturing these relationships is a vital
component of building a successful business and a successful life.
15 DON’T JUST PREDICT RAIN: BUILD AN ARK
Warren Buffett once quipped: “Predicting rain doesn’t count. Building arks does.”
There are various ways in which I’m working to strengthen my investment process to
protect the fund from floods. As I mentioned above, part of this is a matter of
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Annual Report 2015
36
ISTOCK_ NIKADA
making investments that are counter-cyclical, using checklists to avoid recurring
mistakes, building the right relationships, and detaching myself from the mood
swings of the market.
As part of the process of registering with Switzerland’s Financial Market Supervisory
Authority (FINMA), we’ve also instituted more formal procedures for controlling
risk. For example, before buying a stock, I now have to produce a signed document
explaining exactly why I’m making the purchase. In addition, we perform a quarterly
review within Aquamarine in which we discuss questions such as which companies in
the portfolio have taken on more leverage.
This shift towards a more formal structure is helpful in regularly focusing my
attention on risk. If I were Buffett, I wouldn’t need to keep my errant mind on track
by writing out a formal explanation of why I’m buying a particular stock. But for
me, the discipline of having to do this is useful because it forces me to think through
certain issues that I might otherwise gloss over. Strange as it might sound, I’m
actually trying to reduce my own freedom, to restrict my range of motion — not in
a way that hobbles me, but in a way that acknowledges how easy it can be for me
to miss something. There’s so much that I can learn by studying and replicating
investors like Buffett and Munger, but my wiring is different. So I have to set up an
environment and a process that works for me, helping me to become the best version
of myself.
In analyzing companies, there are also important ways of protecting ourselves
against certain negative outcomes. For example, it’s critical to focus on the worst-
case scenario. I need to ask myself unpleasant questions such as what will happen to
Berkshire Hathaway if Buffett proves to be mortal, just as I should have asked myself
what would happen to Horsehead Holdings if the price of zinc were to halve. I didn’t
have a game plan for that eventuality. This was a useful but expensive reminder that I
need to rehearse such moves before taking them.
Another insurance policy against mistakes in analyzing individual companies is to
look more carefully at the quality of earnings — a focus that has largely fallen out of
fashion. It’s not just a matter of judging the absolute quality of earnings, but also of
recognizing the direction in which they’re headed. The question needs to be: is the
quality of earnings deteriorating? It’s striking that Berkshire Hathaway socks away so
much more cash than it reports, whereas many companies dress up their accounts to
mask the fact that the business is actually getting weaker. If the quality of earnings is
deteriorating, it’s a clear sign that I need to take risk off the table.
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Investing Principles
Annual Report 2015
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Investing Principles
16 BE THE LAST MAN STANDING
One of my overriding concerns should be to assume less risk than others. I need to
look carefully at where everyone else is on the risk curve and then make sure that I’m
not going out as far on it as they are. That way, when floods do occur, we shouldn’t
suffer as badly and should be in a better position than others to act opportunistically.
My in-flight checklist can help on this front by specifying that, whatever I’m doing, I
need to make sure that I’m doing less of it than other people. Berkshire Hathaway
takes this approach to insurance by maintaining about ten times more capital than
anyone else and resisting the temptation to underwrite too much risk. Buffett has
structured the company in such a way that, in extremis, he’s the last man standing.
This must be a defining characteristic of my own investing approach.
Buffett once remarked: “When you build a bridge, you insist it can carry 30,000
pounds, but you only drive 10,000 pound trucks across it. And that same principle
works in investing.” But how can I establish the appropriate margin of safety when I
don’t know what’s going to roll across my bridge? I can imagine what’s going to roll
across it, but I can’t be precise about it. What I can do is to make sure that my bridge
is better than, say, 99% of all the other bridges. That way, I’ll be in the least-worst
situation if things go wrong — and I should be able to make hay when other people’s
bridges begin to break.
To put it another way, I may still be left holding the bag, but I’ll be holding less of it
than anyone else. This is a simple but hugely important concept. If I can successfully
execute on this idea — not least, by reducing risk when many other investors are
assuming risk in an increasingly complacent manner — it will make a tremendous
difference to the fund over the coming decades.
There’s a part of my personality that yearns to operate like an engineer, gauging with
absolute precision how much risk is out there. But it’s impossible to get absolute
measures of risk. So, it’s more useful to measure in relative terms where I stand
compared to everyone else. My question should be: “Is the environment fearful or
greedy, and where do I stand on that spectrum?” When the environment is greedy,
my objective is to be less greedy than everyone else.
17 KEEP LIFE SIMPLE
Occasionally, we can find ourselves in extreme situations where there’s a risk of
becoming emotionally flooded — where the stress is so intense that the mind virtually
shuts down and we feel temporarily unable to make smart decisions. One aspect of
building an ark is to set up my life in such a way that I have a good deal of emotional
resilience to draw upon if extreme circumstances arise. It helps to invest real effort in
building a happy family life. It also helps to have no debt and to live within my
means. I believe it’s also important to keep my life simple.
It’s tempting to take on too much in times when all is well, acting on the assumption
that the economy will keep expanding and our own fortunes will keep growing. We
also assume that we will be able to handle the volatility when it comes. But it’s worth
acknowledging that it might be accompanied by other factors that could push us
beyond what we can handle. In a perfect storm, an investor might simultaneously be
faced with a market meltdown, marital problems, multiple businesses to run, health
concerns, philanthropic obligations, and financial pressure to lay people off. The
details are unpredictable. But the point is that there can be a negative lollapalooza
in which multiple pressures occur simultaneously. I’m wary of taking on too much
during the good times — of overreaching or overcomplicating my life. Having one
fund to run is hard enough.
18 EMBRACE ADVERSITY
Adversity in investing, as in life, is a certainty. The writings of Marcus Aurelius taught
me that the real question is how we handle this adversity when we eventually
encounter it. Amid the turmoil of the financial crisis, his writings were a constant
companion, teaching me that until adversity comes along, our virtues are theoretical.
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Annual Report 2015
40
It is only when we actually have to act courageously, honestly and with forthrightness
that we get to prove that we have those virtues in reality, instead of merely aspiring to
have them. We would all prefer not to deal with adversity. But if and when it comes,
it’s an important opportunity. As much as possible, I need to embrace it.
It helps to have powerful role models. For example, Sir Ernest Shackleton succeeded
in getting all of his men home safely from the Antarctic — despite horrendous
conditions and his own grievous misjudgments and mistakes. Misjudgments and
mistakes, like adversity, are inevitable. If I handle them the way that Shackleton did
on his great voyage, we will be much better off.
Likewise, Thomas Edison made a virtue of his setbacks, famously stating: “I have not
failed 700 times. I’ve succeeded in proving 700 ways how not to build a light bulb.”
Nobody likes to fail, any more than they like to be tested by adversity. But people
who learn their lessons, who pick themselves up and keep going, have earned the
right to consider themselves truly successful.
Investing Principles
Independent Auditors’ Report 42
Financial Statements For The Year Ended December 31, 2015
Statement of Assets and Liabilities 43
Condensed Schedule of Investments 44
Statement of Operations 47
Statement of Changes in Partners’ Capital 48
Statement of Cash Flows 49
Notes to the Financial Statements 50
Aquamarine Master Fund, L.P.(A BRITISH VIRGIN ISLANDS INTERNATIONAL LIMITED PARTNERSHIP)
Aquamarine Fund
41
FINANCIAL STATEMENTS
See notes to the financial statements
INDEPENDENT AUDITORS’ REPORT
To the General Partner and Limited Partners of
Aquamarine Master Fund, L.P.
We have audited the accompanying financial statements of Aquamarine Master Fund, L.P. (the “Master Fund”), which comprise the statement of assets and liabilities, including the condensed schedule of investments as of December 31, 2015, and the related statements of operations, changes in partners’ capital and cash flows for the year then ended (all expressed in United States dollars), and the related notes to the financial statements.
Management’s Responsibility for the Financial Statements
Management is responsible for the preparation and fair presentation of these financial statements in accordance with accounting principles generally accepted in the United States of America; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free from material misstatement, whether due to fraud or error.
Auditors’ Responsibility
Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free from material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditors’ judgment, including the assessment of the risks of ma-terial misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the Master Fund’s preparation and fair presentation of the financial state-ments in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of express-ing an opinion on the effectiveness of the Master Fund’s internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Opinion
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Aquamarine Master Fund, L.P. as of December 31, 2015, and the results of its operations, its changes in partners’ cap-ital and its cash flows for year then ended, in conformity with accounting principles generally accepted in the United States of America.
March 18, 2016
Deloitte refers to one or more of Deloitte Touche Tohmatsu Limited, a UK private company limited by guarantee (“DTTL”), its network of member firms, and their related entities. DTTL and each of its member firms are legally separate and independent entities. DTTL (also referred to as “Deloitte Global”) does not provide services to clients. Please see www.deloitte.com/about for a more detailed description of DTTL and its member firms. Deloitte Ltd. is an affiliate of DCB Holding Ltd., a member firm of Deloitte Touche Tohmatsu Limited.
Deloitte Ltd.Chartered Professional AccountantsCorner House20 Parliament StreetP.O. Box 1556 Hamilton HM FXBermuda
Tel: + 1 (441) 292 1500Fax: + 1 (441) 292 0961www.deloitte.bm
Annual Report 2015
42
Aquamarine Master Fund, L.P.
STATEMENT OF ASSETS AND LIABILITIESAt December 31, 2015 (Expressed in United States dollars)
Notes
ASSETSInvestments in securities, at fair value (cost: $105,538,932) 4, 5 $146,214,137Due from brokers 17,399,465
Total assets 163,613,602
LIABILITIESCapital withdrawals payable 1,434Due to related parties 7 2,306,870Accrued tax payable 147,787Accrued expenses and other payables 97,071
Total liabilities 2,553,162
PARTNERS’ CAPITAL 6 $161,060,440
See notes to the financial statements
Aquamarine Fund
43
See notes to the financial statements
Aquamarine Master Fund, L.P.
CONDENSED SCHEDULE OF INVESTMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
Principal Amount Description Percentage of Fair Value of Shares Partners’ Capital
INVESTMENTS IN SECURITIES, AT FAIR VALUE COMMON STOCKS
United States of America Commercial Services 3.97% $6,401,420
Consumer Finance 590,000 Bank of America Corp.(cost: $4,043,820) 6.17 9,929,700 Other 7.29 11,736,900
Total Consumer Finance 13.46 $21,666,600
Diversified Financial Services 272,430 American Express Company 11.76 18,947,507 (cost: $14,480,546)
Insurance 140,600 Berkshire Hathaway Inc. Class B 11.53 18,564,824 (cost: $10,112,100) 30 Berkshire Hathaway Inc. Class A 3.68 5,934,000 (cost: $3,269,700)
Total Insurance 15.21 $24,498,824
Mining 1.68 2,706,000 Pipelines 0.01 10,850
Total United States, 46.09% $74,231,201 (cost: $53,608,710)
Annual Report 2015
44
Principal Amount Description Percentage of Fair Value of Shares Partners’ Capital
INVESTMENTS IN SECURITIES, AT FAIR VALUE (continued) COMMON STOCKS (continued)
Brazil Commercial Services, (cost $3,944,141) 1.58% $2,543,611
China Auto Manufacturers, 1,550,000 Byd Co ‘H’Cny1 5.30% $8,529,230 (cost: $4,986,800) Beverages 0.15 241,985
Total China, (cost: $5,213,273) 5.45% $ 8,771,215
Italy Auto Manufacturers, 2,000,000 Fiat Chrysler Automobiles N.V., 17.42% $28,051,904 (cost: $9,979,267)
Jordan Mining, (cost: $919,302) 0.19% $308,560 Singapore Commercial Services, (cost: $5,486,852) 0.38% $608,192 Switzerland Food 110,000 Nestlé S.A., (cost: $4,282,277) 5.08% $8,184,132
Zimbabwe Building Materials, (cost: $2,342) 0.00% $ -
TOTAL COMMON STOCKS, AT FAIR VALUE (cost: $83,436,164) 76.19% $122,698,815
See notes to the financial statements
Aquamarine Fund
45
Aquamarine Master Fund, L.P.
CONDENSED SCHEDULE OF INVESTMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
Principal Amount Description Percentage of Fair Value of Shares Partners’ Capital
INVESTMENTS IN SECURITIES, AT FAIR VALUE (continued) AMERICAN DEPOSITORY RECEIPT (ADR)
Egypt Diversified financial services, 0.30% $479,601 (cost: $1,346,060)
South Korea Iron/Steel, (cost: $5,124,604) 1.54% $2,475,200
Switzerland Food, (cost: $80,781) 0.10% $154,421
TOTAL AMERICAN DEPOSITORY RECEIPT (ADR), AT FAIR VALUE (cost: $6,551,445) 1.94% $3,109,222
WARRANTS
United States of America Auto Manufacturers 1,000,000 General Motors Co 10.12%$ 16,294,200 07/2019 Call 18.33, (cost: $13,405,433)
Consumer Finance 2.56 4,111,900
Total United States, (cost: $15,551,323) 12.68% $20,406,100
TOTAL WARRANTS, AT FAIR VALUE (cost: $15,551,323) 12.68% $20,406,100
TOTAL INVESTMENTS IN SECURITIES, AT FAIR VALUE (cost: $105,538,932) 90.81% $146,214,137
Annual Report 2015
46
See notes to the financial statements
Aquamarine Master Fund, L.P.
STATEMENT OF OPERATIONSFor the year ended December 31, 2015 (Expressed in United States dollars)
Notes
INVESTMENT INCOMEDividends (net of withholding taxes of $289,645) $851,616
851,616
EXPENSES Management fee 7 2,042,113 Administration fee 8 203,762 Brokerage and bank expenses 92,668 Professional fees 60,786 Other expenses 9,923 Interest 6,021
2,415,273
NET INVESTMENT LOSS (1,563,657)
NET REALIZED GAIN AND NET CHANGE IN UNREALIZED APPRECIATION FROM INVESTMENTSAND FOREIGN CURRENCIES:Net realized gain from:Investments in securities 2,240,788Foreign currency transactions 37,776
2,278,564Net change in unrealized depreciation:Investments in securities 4, 5 (28,667,894)Foreign currency transactions (2,841,106)
(31,509,000)
NET REALIZED GAIN AND NET CHANGE IN UNREALIZED DEPRECIATION FROM INVESTMENTS AND FOREIGN CURRENCIES (29,230,436)
NET DECREASE IN PARTNERS’ CAPITAL RESULTING FROM OPERATIONS $ (30,794,093)
Aquamarine Fund
47
See notes to the financial statements
Aquamarine Master Fund, L.P.
STATEMENT OF CHANGES IN PARTNERS’ CAPITALFor the year ended December 31, 2015 (Expressed in United States dollars)
General Special Limited Limited Partner Partner Partners Total
PARTNERS’ CAPITAL,DECEMBER 31, 2014 $ - $11,013,527 $175,582,440 $186,595,967 INCREASE/(DECREASE) INPARTNERS’ CAPITAL:
From operationsNet decrease in partners’ capital - (1,662,022) (29,132,071) (30,794,093)Incentive allocation 1,434 8,127 (9,561) -
From capital transactionsCapital contributions - - 11,129,331 11,129,331Capital withdrawals (1,434) - (5,869,331) (5,870,765)
PARTNERS’ CAPITAL, DECEMBER 31, 2015 $ - $9,359,632 $151,700,808 $161,060,440
Annual Report 2015
48
See notes to the financial statements
Aquamarine Master Fund, L.P.
STATEMENT OF CASH FLOWSFor the year ended December 31, 2015 (Expressed in United States dollars)
CASH FLOW PROVIDED BY/(USED IN):
OPERATING ACTIVITIES:Net decrease in partners' capital from operations $(30,794,093) Adjustments to reconcile net decrease in partners' capital resultingfrom operations to net cash used in operating activities:
Net realized gain from investments (2,240,788) Net change in unrealized depreciation on investments 31,667,523 Payments for investments purchased (11,784,700) Proceeds from investments sold 10,060,810 Decrease in accrued tax payable (307,663) Increase in due from brokers (1,844,485) Decrease in due to related parties (6,397) Increase in accrued expenses and other payables 21,812
Net cash used in operating activities (5,227,981)
FINANCING ACTIVITIES Capital contributions received 11,129,331Capital withdrawals paid, net of changes in capital withdrawals payable (5,901,350)
Net cash provided by financing activities 5,227,981
NET CHANGE IN CASH AND CASH EQUIVALENTS -
CASH AND CASH EQUIVALENTS, BEGINNING OF THE YEAR -
CASH AND CASH EQUIVALENTS, END OF THE YEAR $ -
Aquamarine Fund
49
See notes to the financial statements
Aquamarine Master Fund, L.P.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
1. ORGANIZATION AND BUSINESS ACTIVITY
Aquamarine Master Fund, L.P. (the “Master Fund”) was formed as an International Limited Partnership in the Territory of the British Virgin Islands (“BVI”) on February 7, 2007 in accordance with the Partnership Act, 1996, and commenced trading on April 1, 2007. The Master Fund is also registered under the BVI Securities and Investment Business Act 2010, as a “professional” mutual fund.
The Master Fund operates under a “master/feeder” structure where its investors invest substantially all of their investable assets in the Master Fund. The Master Fund’s feeders are Aquamarine Fund, Inc., a BVI Business Company (the “Offshore Feeder”), and Aquamarine Value Fund, L.P., a Delaware Limited Partnership (the “Onshore Feeder”), (collectively the “Feeder Funds”).
The investment objective of the Master Fund is to compound wealth for investors over the long term. Entirely consistent with this goal is a strict focus on the potential downside for any investment. Conceptually, the objective is to “double” investors’ wealth several times over the course of a lifetime. Practically, this translates into the goal of outperforming most equity indices by 5-15% annually.
Aquamarine Capital Management, LLC (the “Investment Manager”), a New York limited liability company serves as the investment manager to the Master Fund and is responsible for certain administrative and investment advisory services for the Master Fund. The Investment Manager is a registered adviser with the Security Exchange Commission (“SEC”) and its principal decision maker is Guy Spier.
Aquamarine Zürich AG (the “Asset Manager”), a Swiss company limited by shares, which is affiliated to the Investment Manager through common ownership, is sub-contracted by the Investment Manager to provide asset management services in Switzerland to the Master Fund. On September 21, 2015 the Swiss Financial Market Supervisory Authority (“FINMA”) granted the Asset Manager a license as an Asset Manager for Collective Investment Schemes.
The General Partner of the Master Fund, Aquamarine GP Ltd., (the “Master Fund GP”) and the Special Limited Partner of the Master Fund (the “Special LP”) are not affiliates of the Investment Manager nor the Asset Manager.
2. SIGNIFICANT ACCOUNTING POLICIES
Basis of preparation
The financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“US GAAP”) and are stated in the United States (“US”) dollars. The following is a summary of the significant accounting and reporting policies used in preparing the financial statements.
Investment Company
The Fund is considered an investment company pursuant to Accounting Standards Update No. 2013-08, Financial Services - Investment Companies (Topic 946): Amendments to the
Annual Report 2015
50
Scope, Measurement and Disclosure Requirements ("ASU 2013-08"), and therefore follows the accounting and reporting guidance for investment companies.
Use of estimates
The preparation of financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts in the financial statements and accompanying notes. Actual results could differ from those estimates and the differences could be material.
Investments valuation
The Master Fund values its investments in accordance with Financial Accounting Standards Board (the “FASB”) Accounting Standards Codification (“ASC”) Topic 820, Fair Value Measurements and Disclosures (“ASC 820”) which defines fair value, establishes a framework for measuring value, and requires certain disclosures about fair value measurements.
Fair value is the amount that would be received to sell an asset or paid to transfer a liability, in an orderly transaction between market participants at the measurement date. See note 4, Fair Value Measurements for further discussion relating to the Master Fund’s investments.
Securities listed on national securities exchanges are valued at their last sales price on the day of valuation. If no sales occurred on that day, such securities shall be valued at the last closing bid prices for investments if held long and their last closing asked prices for securities sold short. If no bid or asked prices are quoted on such date, the security shall be fair valued by certain methods as the Investment Manager shall determine in good faith to reflect its fair market value. The change in unrealized appreciation on investments in securities is reflected in the statement of operations.
Geographical and industry classifications
The geographical and industry classifications included in the condensed schedule of investments represent the Investment Manager’s belief as to the most meaningful presentation of the classification of the Master Fund’s investments.
Derivative financial instruments
The Master Fund enters into derivative financial instruments such as warrants. Derivative financial instruments are recorded at fair value at the reporting date. Changes in the fair value of derivative financial instruments that do not qualify for hedge accounting are recognized in the statement of operations as they arise. See Note 5 for quantitative and qualitative disclosures on the Master Fund’s derivative financial instruments.
Securities sold short
The Master Fund engages in short sales as part of its investment strategy. A short sale is a transaction in which the Master Fund sells a security it does not own. The proceeds received for a short sale are recorded as a liability and the Master Fund records an unrealized gain or loss to the extent of the difference between the proceeds received and the fair value at the reporting date of the open short position. The Master Fund records a realized gain or loss when the short
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51
Aquamarine Master Fund, L.P.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
position is closed out. By entering into short sales, the Master Fund bears the market risk of an unfavorable change in the price of the security sold short in excess of the proceeds received. While the transaction is open, the Master Fund will also incur an expense for any dividends and/or interest which will be paid to the lender of the securities.
Fair value of financial instruments
The fair value of the Master Fund’s assets and liabilities which qualify as financial instruments under ASC 825, Financial Instruments: Disclosure about Fair Value of Financial Instruments, approximates the carrying amounts presented in the statement of assets and liabilities.
Cash and cash equivalents
The Master Fund considers cash at bank, short-term deposits and other short-term highly liquid investments with original maturities of three months or less to be cash and cash equivalents.
Due from brokers
Due from brokers includes cash, foreign cash and margin balances with the Master Fund’s clearing brokers. The Master Fund receives interest on cash balances and pays interest on margin debit balances as determined by the brokers based on market rates. The cash at brokers may partially relate to securities sold short and its use may be therefore restricted until securities are purchased to cover the outstanding short position.
Capital withdrawals payable
The Master Fund recognizes capital withdrawals payable in accordance with ASC 480, Distinguishing Liabilities from Equity (“ASC 480”). Capital withdrawals are recognized as liabilities when the amount requested in the capital withdrawal notice becomes fixed.
Prior to December 31, 2015, the Master Fund received redemption notices to be paid after year end but based on December 31, 2015 capital balances. Within the context of ASC 480, such capital withdrawal notices represent an unconditional obligation of the Master Fund at December 31, 2015. The liability to such partners is presented in the statement of assets and liabilities as “capital withdrawals payable”.
Revenue and expense recognition
The Master Fund records its transactions in securities, including short sale of securities, on a trade date basis. Realized gains and losses on investment transactions are determined based on the first in, first out cost basis. Interest income is recorded on the accrual basis. Dividend income is recognized on the ex-dividend date and is recorded net of withholding taxes, where applicable. Interest expense and other operating expenses are recorded on the accrual basis.
Foreign currency
Investment in securities and other assets and liabilities denominated in foreign currencies are translated into U.S. dollar amounts at the date of valuation. Purchases and sales of investment securities and income and expense items denominated in foreign currencies are translated into US dollar amounts on the respective dates of such transactions.
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52
The Master Fund does not isolate that portion of the results of operations resulting from changes in foreign exchange rates on investments from the fluctuations arising from changes in market prices of securities held. Such fluctuations are included with the net realized and unrealized gain or loss from investments in the statement of operations.
Reported net realized foreign exchange gains or losses arise from sales of foreign currencies, currency gains or losses realized between the trade and settlement dates on securities transactions, and the difference between the amounts of dividends, interest and foreign withholding taxes recorded on the Master Fund’s books and the US dollar equivalent of the amounts actually received or paid. Net unrealized foreign exchange gain and loss arise from changes in the fair values of assets and liabilities, other than investments in securities at fiscal year end, resulting from changes in exchange rates.
Income taxes
Under the current laws of the BVI, the Master Fund is not subject to income taxes. The Master Fund intends to conduct its affairs such that it will not be subject to taxation in any jurisdiction, other than withholding taxes on investment income and capital gains, where applicable.
The Master Fund reviews and evaluates tax positions in its major jurisdictions and determines whether or not there are uncertain tax positions that require financial statement recognition.
In determining the major tax jurisdictions, the Master Fund considers where it is organized and where it makes investments. The Master Fund’s US Federal and state tax returns for 2011 to 2014 remain open for examination by tax authorities and tax positions associated with foreign tax jurisdictions remain subject to examination based on varying statutes of limitations.
Based on its review, the Master Fund has determined that ASC 740, Income Taxes (“ASC 740”) has a potential tax liability and therefore provision for income taxes was recorded. The accrued tax payable balance in the statement of assets and liabilities is a provision for the potential tax liability of 15% “on-exchange” tax upon disposal of Brazilian equities.
The Master Fund is not aware of any other tax positions for which it is reasonably possible that the total amounts of unrecognized tax benefits will change materially in the next twelve months. The determination of income taxes is based on complex analyses of many factors, including matters that are subject to interpretation.
Individual partners of the Onshore Feeder, General Partner and Special Limited Partner of the Master Fund are taxed on their proportionate share of the Master Fund’s income.
Recent accounting pronouncements
In January 2016, the FASB issued ASU 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities, which contains limited amendments to the guidance in U.S. GAAP on the classification and measurement of financial instruments. The new standard revises an entity's accounting related to (1) the classification and measurement of investments in equity securities and (2) the presentation of certain fair value changes for financial liabilities measured at fair value. It also amends certain disclosure requirements associated with the fair value of financial
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Aquamarine Master Fund, L.P.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
instruments. ASU 2016-01 is effective for annual reporting periods beginning after December 15, 2018. Managment has reviewed the requirements of ASU 2016-01 and is currently evaluating the impact on the financial statements of the Master Fund.
3. DUE FROM BROKERS
The “Due from brokers” balance in the statement of assets and liabilities includes the net cash and cash equivalents due from brokers at December 31, 2015. This amount includes cash denominated in foreign currencies with a fair value of $2,178,348 (cost $2,482,048) at December 31, 2015.
4. FAIR VALUE MEASUREMENT
The Master Fund selects an appropriate valuation technique for the market conditions and for which sufficient, reliable data inputs are available. The Master Fund distinguishes between inputs that are based on market data obtained from independent sources and inputs that reflect assumptions from one market participant as to actions of other market participants and emphasizes those valuation inputs based on market data. A determination of what constitutes “observable market data” requires significant judgment.
Market price observability is affected by a number of factors, including the type of investment and the characteristics specific to the investment. Investments with readily available active quoted prices or for which fair value can be measured from actively quoted prices, generally will have a higher degree of market price observability and a lesser degree of judgment used in measuring fair value.
Inputs to valuation techniques used by the Master Fund to determine the fair value of an asset or a liability are prioritized based upon a hierarchy, which gives priority to observable inputs in the marketplace that are more objective, rather than inputs that are more subjective because they have been derived through extrapolation or interpolation from market data. In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, an investment’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. The following describes the three levels of the fair value hierarchy, provides general characteristics and examples of measurement inputs associated with each hierarchical level as well as valuation techniques used by the Master Fund for components of its financial instrument inventory.
Investments measured and reported at fair value are classified and disclosed in one of the following categories:
Level 1 Inputs are unadjusted quoted prices in active markets that are accessible at the measurement date for identical and unrestricted assets or liabilities. The types of investments included in Level 1 are exchange traded equities and derivatives. Level 1 investments are primarily securities that are listed or traded on a national or global exchange.
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Level 2 Inputs are inputs that are observable, either directly or indirectly, but do not qualify as Level 1 inputs and may include:
• Quoted prices in markets that are not considered to be active for identical or similar assets or liabilities, quoted prices in active markets for similar assets or liabilities, and inputs other than quoted prices that are observable or can be corroborated by observable market data, or price quotations vary substantially either over time or among market makers (e.g., some brokered markets), or in which little information is released publicly (e.g., a principal-to-principal market)
• Inputs other than quoted prices that are observable for the asset or liability (e.g., interest rates and yield curves observable at commonly quoted intervals, volatilities, prepayment speeds, loss severities, credit risks, and default rates)
• Inputs that are derived principally from or corroborated by observable market data through correlation or by other means (market-corroborated inputs)
Level 3 Inputs that are inputs both significant to the fair value measurement and unobservable, including inputs that are not derived from market data or cannot be corroborated by market data. The inputs into the determination of fair value require significant management judgment or estimation. Level 3 inputs reflect the Master Fund’s assumptions that it believes market participants would use in pricing the asset or liability.
Level 3 inputs are based on the best information available in the circumstances, which may include indirect correlation to a market value, combinations of market values or proprietary data.
At December 31, 2015, all of the Master Fund’s investments were valued using Level 1 inputs.
5. DERIVATIVE FINANCIAL INSTRUMENTS
The Master Fund may trade in derivative financial instruments with off-balance sheet risk in the normal course of its investing activities. These derivative financial instruments may involve, to a varying degree, elements of risk in excess of the amounts recognized for financial statement purposes. The notional or contractual amounts of these instruments represent the investment the Master Fund has in particular classes of financial instruments and does not necessarily represent the amounts potentially subject to risk. The measurement of the risks associated with these instruments is meaningful only when all related and offsetting transactions are considered.
ASC 815, Derivatives and Hedging (“ASC 815”) is intended to improve financial reporting about derivative instruments by requiring enhanced disclosures to enable investors to better understand how and why the Master Fund uses derivative instruments, how these derivative instruments are accounted for and their effects on the Master Fund’s statements of assets and liabilities, operations and cash flows.
The value of a warrant has two components: time value and intrinsic value. A warrant has a limited life and expires on a certain date. As the expiration date of a warrant approaches, the
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Aquamarine Master Fund, L.P.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
time value of a warrant will decline. In addition, if the stock underlying the warrant declines in price, the intrinsic value of an “in the money” warrant will decline. Further, if the price of the stock underlying the warrant does not exceed the strike price of the warrant on the expiration date, the warrant will expire worthless. As a result, there is the potential for the Master Fund to lose its entire investment in a warrant.
Master Fund traded warrants in equity securities which were listed on a major stock exchange. The warrants are reported in investment in securities at fair value in the statement of assets and liabilities with the resulting net unrealized gains and losses in investment in securities reflected in the statement of operations. Any gains and losses realized from the purchase and sale of these securities were computed on a first-in, first-out basis.
The following table identifies the fair value amounts of derivative instruments included in the Statement of assets and liabilities as well as in the Condensed schedule of investments, categorized by primary underlying risk.
The following table also identifies the net realized gain/(loss) and net unrealized appreciation/(depreciation) amounts included in investment in securities in the Statement of operations, categorized by primary underlying risk
Fair value of derivative Instruments as of December 31, 2015
Statement of Assets Derivative DerivativeUnderlying Risk Type and Liabilities Location Assets Liabilities
Equity warrants Investments in securities, at fair value $20,406,100 $ -
The effect of derivative instruments on the Statement of Operations for the year ended December 31, 2015
Change in unrealized Amount of appreciation/ realized gains/(losses) (depreciation) on derivatives on derivativesUnderlying Risk Type recognized in income recognized in income
Equity warrants $ (40,837) $(2,072,037)
As of December 31, 2015, the derivatives held by the Master Fund were not subject to any master netting or similar agreements.
6. PARTNERS’ CAPITAL
Capital contributions
The Master Fund GP may admit new limited partners and permit limited partners to make additional capital contributions on the first business day of each calendar month or at any other
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time in the Master Fund GP’s sole discretion. The minimum initial and additional contribution to the Master Fund by each investor shall be such minimum as determined by the Master Fund GP from time to time.
Capital withdrawals
A limited partner has the right upon five days prior written notice to the Master Fund GP to make a partial or total withdrawal from its capital account as of the last business day of each calendar quarter or such other date as determined by the Master Fund GP.
Allocation of net profits and net losses
Net profits or net losses during any fiscal period shall be allocated as of the end of such fiscal period to the capital accounts of all the partners in the proportion that the balance of each partner’s capital account as of the beginning of such fiscal period bore to the aggregate of the capital accounts of all the partners as of the beginning of such fiscal period.
Special Limited Partner
The Special LP is entitled to receive a portion of the incentive allocation with respect to the Offshore Feeder’s capital account in the Master Fund. At December 31, 2015, the Special LP’s proportionate interest in the partners’ capital of the Master Fund is approximately 5.81%.
7. RELATED PARTY TRANSACTIONS AND BALANCES
Management fees
Under the terms of an investment management agreement dated April 1, 2007 the Investment Manager has agreed to render investment management services to the Master Fund.
The Investment Manager receives a monthly management fee in arrears of an amount equal to approximately 0.0833% (1% per annum) for applicable non-related party investors and approximately 0.1667% (2% per annum) for related parties, as of the last business day of each calendar month.
Management fee is payable by Class A limited partners of the Onshore Feeder, and Class A/B shareholders of the Offshore Feeder. No management fees are paid by the Special LP, Class B limited partners of the Onshore Feeder and Class C shareholders of the Offshore Feeder. During the financial crisis, in order to ensure that the Investment Manager had the required funds for operations, related parties elected to pay management fee of 2%, regardless of the class in which investments are held. The Investment Manager expects that this arrangement will be terminated in due course.
For the year ended December 31, 2015, the Investment Manager earned $45,128 from the Onshore Feeder and $1,996,984 from the Offshore Feeder, of which $152,522 is payable at the reporting date.
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Aquamarine Master Fund, L.P.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
Incentive allocation
Offshore Feeder
Incentive allocation is calculated on the Offshore Feeder in accordance with the confidential information memorandum dated October 1, 2008 as amended in July 2010.
Subject to the “loss recovery account provisions” discussed below, the following amounts will be reallocated (in the aggregate) from the Offshore Feeder’s capital account in the Master Fund collectively to the Master Fund GP’s and Special LP’s capital accounts in the Master Fund:
(i) at the end of each calendar quarter of the Master Fund, 20% of the Class A/B aggregate net increase, in excess of the Class A/B hurdle return;
(ii) at the end of each calendar year of the Master Fund, 25% of the Class C aggregate net increase in excess of the Class C hurdle return.
The incentive allocation shall be allocated as follows: 15% will be allocated to the capital account of the Master Fund GP, and 85% will be allocated to the capital account of the Special LP.
Class A/B hurdle return means an amount equal to one percent (1%) of the portion of the Offshore Feeder capital account balance in the Master Fund which is attributable to Class A/B shareholders, calculated as of the beginning of each calendar quarter. The Class A/B hurdle return will be adjusted throughout the applicable period to reflect additional contributions and withdrawals by the Class A/B shareholders of the Offshore Feeder in the Master Fund. The Class A/B hurdle return is cumulative with respect to each quarter during a calendar year but not from year to year.
Class C hurdle return means an amount equal to six percent (6%) of the portion of the Offshore Feeder capital account balance in the Master Fund which is attributable to Class C shareholders, calculated as of the beginning of each calendar year.
The Class C hurdle return will be adjusted throughout the applicable period to reflect additional contributions and withdrawals by the Class C shareholders of the Offshore Feeder in the Master Fund. The Class C hurdle return is non-cumulative with respect to each calendar year.
Under a loss carry forward recovery account, no incentive allocation is made from the sub-capital account of a particular shareholder of the Offshore Feeder until any net loss previously allocated to the sub-capital account of such shareholder has been offset by subsequent net profits. Any such loss carry forward will be subject to reduction for redemptions on a pro rata basis.
Incentive allocation shall be credited as of the end of the performance period to the capital account of the Master Fund GP and Special LP. The Master Fund GP and Special LP may, at their sole discretion, waive or reduce the incentive allocation with respect to any shareholder.
For the year ended December 31, 2015, $8,127 and $1,434 were allocated from the Offshore Fund to the Special LP and the Master Fund GP respectively.
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Onshore Feeder
Incentive allocation is calculated on the Onshore Feeder in accordance with the amended and restated confidential private placement memorandum dated January 1, 2008.
Subject to the “loss recovery account provisions” discussed below, the following amounts will be reallocated (in the aggregate) from the Onshore Feeder’s capital account in the Master Fund to the Master Fund GP’s capital account in the Master Fund:
(i) at the end of each calendar quarter, 20% of the Class A aggregate net increase, in excess of the Class A hurdle return;
(ii) at the end of each calendar year of the Master Fund, 25% of the Class B aggregate net increase in excess of the Class B hurdle return.
Class A hurdle return means an amount equal to one percent (1%) of the portion of the Onshore Feeder’s capital account balance in the Master Fund which is attributable to Class A limited partners, as of the beginning of each calendar quarter. The Class A hurdle return will be adjusted throughout the applicable period to reflect additional capital contributions and withdrawals by the Class A limited partners in the Master Fund. The Class A hurdle return is cumulative with respect to each quarter during a calendar year but not from year to year.
Class B hurdle return means an amount equal to six percent (6%) of the portion of the Onshore Feeder’s capital account balance in the Master Fund which is attributable to Class B limited partners, calculated as of the beginning of each calendar year. The Class B hurdle return will be adjusted throughout the applicable period to reflect additional capital contributions and withdrawals by the Class B limited partners in the Master Fund. The Class B hurdle return is non-cumulative with respect to each calendar year.
Under a loss carry forward recovery account, no incentive allocation is made from the sub-capital account of a limited partner of the Onshore Feeder until any net loss previously allocated to the sub-capital account of such limited partner has been offset by subsequent net profits. Any such loss carry forward will be subject to reduction for withdrawals on a pro rata basis.
Incentive allocation shall be credited as of the end of the performance period to the capital account of the Master Fund GP. The Master Fund GP may, at its sole discretion, waive or reduce the incentive allocation with respect to any partners. For the year ended December 31, 2015, there was no incentive allocation made to the Master Fund GP from the Onshore Feeder.
Related party balances
A summary of the related party balances at the reporting date is as follows:
Due to Investment Manager $ 152,522Due to General Partner $ 2,154,348
$ 2,306,870
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Aquamarine Master Fund, L.P.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
8. ADMINISTRATION AGREEMENT
The Master Fund and the Feeder Funds entered into an administration agreement with Prime Management Limited (the “Administrator”) a subsidiary of SS&C Globe Op for the provision of certain accounting, administrative and investor services. The Master Fund pays the Administrator an annual fee calculated and payable on a monthly basis. The fee is calculated based on certain percentages of the partners’ capital of the Master Fund at the beginning of each month and is subject to a monthly minimum of $5,000.
For the year ended December 31, 2015, total administration fees of $203,762 were incurred of which $19,676 was payable at the reporting date.
9. RISK FACTORS
Investment in the Master Fund involves significant risk factors and is suitable only for persons who can bear the economic risk of the loss of their investment, who have limited need for liquidity in their investment and who meet the conditions set forth in the private placement memorandum. There can be no assurances that the Master Fund will achieve its investment objective.
Investment in the Master Fund carries with it the inherent risks associated with investments in securities, as well as additional risks including, but not limited to, the following:
Short sales
The Master Fund’s investment portfolio includes short positions. Short selling involves selling securities which may or may not be owned and borrowing the same securities for delivery to the purchaser, with an obligation to replace the borrowed securities at a later date. Short selling allows the investor to profit from a decline in the price of a particular security. A short sale creates the risk of a theoretically unlimited loss, in that the price of the underlying security could theoretically increase without limit, thus increasing the cost to the Master Fund of buying those securities necessary to cover the short position.
There can be no assurance that the security necessary to cover a short position will be available for purchase. Purchasing securities to close out the short position can itself cause the price of securities to rise further, thereby exacerbating the loss. As a result, short sales create the risk that the Master Fund’s ultimate obligation to satisfy the delivery requirements may exceed the amount of the proceeds initially received or the liability recorded in the statement of assets and liabilities.
The Master Fund had no short sales during the year ended December 31, 2015.
Borrowings and leverage
The Master Fund may utilize leverage in its investment program by entering into short sales, options and other similar techniques.
The concept of leverage is based on the premise that the Master Fund’s cost of borrowing will be at rates that normally will be lower than the rate of return earned on the longer term investments it holds.
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While the use of leverage may increase the returns on capital invested in the Master Fund, the use of leverage also increases the risk of loss of such capital, because the claims of lenders on assets and income of the Master Fund will be senior to the claims of the investors.
Financial instruments and associated risks
The Master Fund maintains active trading positions in a variety of derivative and non-derivative instruments as directed by its investment management strategy. The investing activities of the Master Fund expose it to various types of risk, which are associated with the financial instruments and markets in which it invests. Such risks include, but are not limited to, market risk, credit risk and liquidity risk.
Market risk
Market risk is the risk that future changes in equity and commodity prices, interest rates and foreign exchange rates may make an instrument less valuable or more onerous. Market risk includes price risk, interest rate risk and currency risk. All investments held are subject to market risk, are recognized at fair value, and all changes in market condition directly affect net increase/decrease in partners’ capital resulting from operations.
The Master Fund manages its exposure to market risk in accordance with risk management principles set by the Investment Manager for buying or selling instruments.
Price risk – The Master Fund is exposed to market risk on financial instruments that are valued at market prices. Specifically, a risk exists that the ultimate selling price of such financial instruments may differ from their estimated fair values at December 31, 2015.
Interest rate risk – Certain of the Master Fund’s financial assets and liabilities are interest bearing and as a result the Master Fund is subject to risk due to fluctuations in the prevailing levels of market interest rates.
Currency risk – The functional currency of the Master Fund is the US dollar. The Master Fund invests in financial instruments denominated in currencies other than its functional currency. Consequently, the Master Fund is exposed to risks that the exchange rate of its currency relative to other currencies may change in a manner that has an adverse effect on the value of the portion of the Master Fund’s assets or liabilities denominated in currencies other than US dollars.
Credit risk
Credit risk is the risk that the counterparty to a financial instrument will fail to discharge an obligation or commitment that it has entered into with the Master Fund. Credit risk is generally higher when a non-exchange traded financial instrument is involved because the counterparty for non-exchange traded financial instruments is not backed by an exchange clearing house.
Substantially all financial instruments are cleared through and held in custody primarily by two major international institutions. The Master Fund is subject to credit risk to the extent that these institutions may be unable to fulfill their obligations either to return the Master Fund’s securities or repay amounts owed.
The risk that counterparties to both derivative and other instruments might default on their obligations is monitored on an ongoing basis. To manage the level of credit risk, the Master Fund seeks to conduct business with counterparties of good credit standing.
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Aquamarine Master Fund, L.P.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
Liquidity risk
Liquidity risk is the risk that the Master Fund may have difficulty in liquidating its positions due to existing or unforeseen market constraints. The Master Fund’s financial instruments may include investments that are traded over-the-counter, which are not traded in an organized public market and may generally be illiquid. As a result, the Master Fund may not be able to quickly liquidate investments or to respond to specific events such as deterioration in the credit worthiness of any particular issuer.
At December 31, 2015, the Master Fund’s listed securities are considered to be readily realizable as they are listed on major United States and international stock exchanges.
These risks are monitored on an ongoing basis and the composition of the portfolio is amended accordingly while adhering to the investment guidelines set forth in the Master Fund's confidential information memorandum.
10. FINANCIAL HIGHLIGHTS
The following financial highlights are calculated for the limited partners taken as a whole and exclude data for the Master Fund GP and Special LP.
Individual limited partner’s returns will vary due to the timing of capital contributions and withdrawals, different management fees and incentive allocation arrangements.
Total returnTotal return before incentive allocation (16.12)%Incentive allocation -
Total return after incentive allocation (16.12)%
Ratio to average limited partners’ capital*Operating expenses before incentive allocation 1.45% Incentive allocation 0.01
Operative expenses after incentive allocation 1.46%
Net investment loss before incentive allocation 0.97%
*Ratios of operating expenses and net investment loss are computed based on the monthly average of the partners’ capital of all limited partners for the year.
11. SUBSEQUENT EVENTS
Management has evaluated subsequent events occurring through March 18, 2016, the date that these financial statements were available for issue, and found that there were no significant events which would have a material bearing on these financial statements.
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Independent Auditors’ Report 64
Financial Statements For The Year Ended December 31, 2015
Statement of Assets and Liabilities 65
Statement of Operations 66
Statement of Changes in Net Assets 67
Statement of Cash Flows 68
Notes to the Financial Statements 69
Aquamarine Fund, Inc.(A BRITISH VIRGIN ISLANDS BUSINESS COMPANY)
FINANCIAL STATEMENTS
INDEPENDENT AUDITORS’ REPORT
To the Board of Directors and Shareholders of
Aquamarine Fund, Inc.
We have audited the accompanying financial statements of Aquamarine Fund, Inc. (the “Offshore Feeder”), which comprise the statement of assets and liabilities as of December 31, 2015, and the related statements of operations, changes in net assets and cash flows for the year then ended (all expressed in United States dollars), and the related notes to the financial statements.
Management’s Responsibility for the Financial Statements
Management is responsible for the preparation and fair presentation of these financial statements in accordance with accounting principles generally accepted in the United States of America; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free from material misstatement, whether due to fraud or error.
Auditors’ Responsibility
Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free from material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditors’ judgment, including the assessment of the risks of ma-terial misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the Offshore Feeder’s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Offshore Feeder’s internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Opinion
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Aquamarine Fund Inc. as of December 31, 2015 and the results of its operations, its changes in net assets and its cash flows for the year then ended, in conformity with accounting principles generally accepted in the United States of America.
March 18, 2016
Deloitte Ltd.Chartered Professional AccountantsCorner House20 Parliament StreetP.O. Box 1556 Hamilton HM FXBermuda
Tel: + 1 (441) 292 1500Fax: + 1 (441) 292 0961www.deloitte.bm
Deloitte refers to one or more of Deloitte Touche Tohmatsu Limited, a UK private company limited by guarantee (“DTTL”), its network of member firms, and their related entities. DTTL and each of its member firms are legally separate and independent entities. DTTL (also referred to as “Deloitte Global”) does not provide services to clients. Please see www.deloitte.com/about for a more detailed description of DTTL and its member firms. Deloitte Ltd. is an affiliate of DCB Holding Ltd., a member firm of Deloitte Touche Tohmatsu Limited.
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Aquamarine Fund, Inc.
STATEMENT OF ASSETS AND LIABILITIES At December 31, 2015 (Expressed in United States dollars)
Notes
ASSETSInvestments in Aquamarine Master Fund, L.P., at fair value $128,415,709Cash and cash equivalents 1,512,035
Total assets 129,927,744
LIABILITIESRedemptions payable 120,779Accrued expenses and other payables 20,993
Total liabilities 141,772
NET ASSETS 3 $129,785,972
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See notes to the financial statements
Aquamarine Fund, Inc.
STATEMENT OF OPERATIONSFor the year ended December 31, 2015 (Expressed in United States dollars)
Notes
NET INVESTMENT LOSS ALLOCATED FROM AQUAMARINE MASTER FUND, L.P.Income $659,427Expenses 4 (2,304,792)
(1,645,365)
EXPENSESProfessional fees 25,115 Administration fee 5 36,675 Office expenses 10,325 Director’s fees and expenses 10,000
82,115
NET INVESTMENT LOSS (1,727,480)
NET REALIZED GAIN AND NET CHANGE IN UNREALIZED DEPRECIATION ON INVESTMENTS AND FOREIGN CURRENCIES ALLOCATED FROM AQUAMARINE MASTER FUND, L.P. Net realized gain on investments and foreign currencies 1,875,016Net change in unrealized depreciation on investments and foreign currencies (25,095,873)
NET REALIZED GAIN AND CHANGE IN UNREALIZEDDEPRECIATION (23,220,857)
NET DECREASE IN NET ASSETS RESULTING FROM OPERATIONS $ (24,948,337)
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See notes to the financial statements
Aquamarine Fund, Inc.
STATEMENT OF CHANGES IN NET ASSETSFor the year ended December 31, 2015 (Expressed in United States dollars)
NET ASSETS, DECEMBER 31, 2014 $152,181,601
INCREASE/(DECREASE) IN NET ASSETS
From operations Net investment loss (1,727,480) Net realized gain on investments and foreign currencies 1,875,016 Net change in unrealized depreciation on investments and foreign currencies (25,095,873)
Net increase in net assets resulting from operations (24,948,337)
From capital transactions Issuance of shares
Class B Series 2 750,000 Class B Series 3 1,500,000 Class C Series 2 2,500,000 Class C Series 9 596,626 Class C Series 10 83,316 Class C Series 11 1,000,000 Class C Series 12 1,964,331 Class C Series 13 28,266 Class C Series 14 500,000
8,922,539
Redemption of shares Class A Initial Series (132,104) Class A Series 1 (2,877,234) Class B Series 1 (451,910) Class B Series 2 (596,626) Class C Series 1 (2,110,501) Class C Series 3 (201,456)
(6,369,831) Net increase in net assets from capital transactions 2,552,708
NET ASSETS, DECEMBER 31, 2015 $129,785,972
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See notes to the financial statements
Aquamarine Fund, Inc.
STATEMENT OF CASHFLOWSFor the year ended December 31, 2015 (Expressed in United States dollars)
CASH FLOW PROVIDED BY/(USED IN):
OPERATING ACTIVITIES:Net decrease in net assets from operations $(24,948,337)Adjustments to reconcile net decrease in net assets resultingfrom operations to net cash provided by operating activities:
Net realized gain on investments and foreign currencies allocated from Aquamarine Master Fund, L.P. (1,875,016) Net change in unrealized depreciation on investments and foreign currencies allocated from Aquamarine Master Fund, L.P. 25,095,873 Net investment loss allocated from Aquamarine Master Fund, L.P. 1,645,365Payments for purchases of Aquamarine Master Fund, L.P. (4,284,356)Proceeds from sales of Aquamarine Master Fund, L.P. 4,905,000Increase in accrued expenses and other payables (14,059)
Net cash provided by operating activities 524,470
FINANCING ACTIVITIES Proceeds from issuance of shares, net of changes in subscriptions received in advance 6,422,539Payments on redemption of shares, net of changes in redemptions payable (8,097,717)
Net cash provided by financing activities (1,675,178)
NET DECREASE IN CASH AND CASH EQUIVALENTS (1,150,708)
CASH AND CASH EQUIVALENTS, BEGINNING OF THE YEAR 2,662,743
CASH AND CASH EQUIVALENTS, END OF THE YEAR $1,512,035
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See notes to the financial statements
Aquamarine Fund, Inc.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
1. ORGANIZATION AND BUSINESS ACTIVITY
Aquamarine Fund, Inc. (the “Offshore Feeder”) was incorporated in the British Virgin Islands on June 26, 1997 under the International Business Companies Act and commenced operations on June 26, 1997. On January 1, 2007, the Offshore Feeder was automatically re-registered under the BVI Business Companies Act, 2004. The Offshore Feeder is also registered under the Securities and Investment Business Act, 2010 as a “professional” mutual fund.
The Offshore Feeder operates under a “master/feeder” structure, where Aquamarine Master Fund, L.P. (the “Master Fund”), a BVI International Limited Partnership, is the master fund. The Offshore Feeder invests substantially all of its investable assets in the Master Fund, together with Aquamarine Value Fund, L.P. (the “Onshore Feeder”), a Delaware Limited Partnership (collectively, the “Feeder Funds”). As at December 31, 2015, the Offshore Feeder’s proportionate interest in the partners’ capital of the Master Fund is approximately 80%.
The investment objective of the Offshore Feeder is to compound wealth for shareholders over the long term. The Offshore Feeder intends to achieve its investment objectives through its investment in the Master Fund, which has the same investment objectives as the Offshore Feeder.
Aquamarine Capital Management, LLC (the “Investment Manager”), a New York limited liability company serves as the investment manager to the Offshore and Onshore Feeder Funds and the Master Fund and is responsible for certain administrative and investment advisory services for the Feeder Funds and the Master Fund. The Investment Manager is a registered adviser with the Security Exchange Commission (“SEC”) and its principal decision maker is Guy Spier.
Aquamarine Zürich AG (the “Asset Manager”), a Swiss company limited by shares, which is affiliated to the Investment Manager through common ownership, is sub-contracted by the Investment Manager to provide asset management services in Switzerland to the Master Fund. On September 21, 2015 the Swiss Financial Market Supervisory Authority (“FINMA”) granted the Asset Manager a license as an Asset Manager for Collective Investment Schemes.
The General Partner of the Master Fund, Aquamarine GP Ltd., (the “Master Fund GP”) and the Special Limited Partner of the Master Fund (the “Special LP”) are not affiliates of the Investment Manager nor the Asset Manager.
The performance of the Offshore Feeder is directly affected by the performance of the Master Fund. The Master Fund utilizes the services of the Investment Manager to invest the assets of the Offshore Feeder, together with the assets of the Onshore Feeder.
The financial statements of the Master Fund, including the condensed schedule of investments, are included at the end of this report and should be read in conjunction with the Offshore Feeder’s financial statements.
2. SIGNIFICANT ACCOUNTING POLICIES
Basis of preparation
The financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“US GAAP”) and are stated in United States (“US”) dollars. The following is a summary of the significant accounting and reporting policies used in preparing the financial statements.
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Aquamarine Fund, Inc.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
Investment Company
The Offshore Feeder is considered an investment company pursuant to Accounting Standards Update No. 2013-08, Financial Services - Investment Companies (Topic 946): Amendments to the Scope, Measurement and Disclosure Requirements ("ASU 2013-08"), and therefore follows the accounting and reporting guidance for investment companies.
Use of estimates
The preparation of financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts in the financial statements and accompanying notes. Actual results could differ from those estimates and the differences could be material.
Valuation of investment in the Master Fund
The Offshore Feeder records its investment in the Master Fund at fair value based on its respective percentage of the Master Fund’s partners’ capital. Valuation of securities held by the Master Fund is disclosed in Note 2 of the Master Fund’s notes to the financial statements (the “Master Fund’s Notes”).
ASC 820, Fair Value Measurement and Disclosures (“ASC 820”) defines fair value, establishes a framework for measuring fair value and requires certain disclosures about fair value measurements. Additional disclosures due to the impact of ASC 820 on the Offshore Feeder’s underlying investments held within the Master Fund are included in Note 4 of the Master Fund’s Notes.
Cash and cash equivalents
The Offshore Feeder classifies cash at bank, and short-term deposits with original maturities of three months or less as cash and cash equivalents.
Revenue and expense recognition
The Offshore Feeder records its proportionate share of the Master Fund’s income, expenses, and realized and unrealized gains and losses. The Master Fund’s income and expenses recognition policies and allocation are discussed in Note 2 of the Master Fund’s Notes.
Income and expenses that are directly attributable to the Offshore Feeder are recorded on the accrual basis as incurred.
Redemptions payable
The Offshore Feeder recognizes redemptions payable in accordance with ASC 480, Distinguishing Liabilities from Equity (“ASC 480”). Redemptions are recognized as liabilities when the amount requested in the redemption notice becomes fixed. Prior to December 31, 2015, the Offshore Feeder received redemption notices to be paid after year end but based on December 31, 2015 net asset value. Within the context of ASC 480, such redemption notices represent an unconditional obligation of the Offshore Feeder at December 31, 2015. The liability to such shareholders is presented in the statement of assets and liabilities as “redemptions payable”.
Foreign currency
The books and records of the Offshore Feeder and the Master Fund are maintained in US dollars. The foreign currency translation policy is discussed in Note 2 of the Master Fund’s Notes.
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Income taxes
Under current BVI law, the Offshore Feeder is not required to pay taxes in BVI on either income or capital gains. Accordingly, no provision for taxation has been made in these financial statements for the Offshore Feeder. The Offshore Feeder intends to conduct its affairs such that it will not be subject to taxation in any jurisdiction, other than withholding taxes on investment income and capital gains allocated from the Master Fund, where applicable.
The Offshore Feeder reviews and evaluates tax positions in its major jurisdictions and determines whether or not there are uncertain tax positions that require financial statement recognition. In determining the major tax jurisdictions, the Offshore Feeder considers where it is organized and where it makes investments. The Offshore Feeder is filing a protective return in the United States. The tax returns for 2012 to 2015 remain open for examination by tax authorities. Tax positions associated with foreign tax jurisdictions remain subject to examination based on varying statutes of limitations. The Offshore Feeder is also not aware of any other tax positions for which it is reasonably possible that the total amounts of unrecognized tax benefits will change materially in the next twelve months. The determination of income taxes is based on complex analyses of many factors, including matters that are subject to interpretation.
3. SHARE CAPITAL
Authorized share capital of the Offshore Feeder
As of April 1, 2007, the Offshore Feeder no longer offers Class A shares. Instead, the Offshore Feeder offers the Class B shares, which have the same rights, privileges and terms as the Class A shares, except for the terms of redemption as noted below. As of January 1, 2008, the Offshore Feeder offers Class C shares.
The authorized capital of the Offshore Feeder is $100,000 and consists of 1,000 voting non-participating, non-redeemable shares of par value $0.01 each (the “Ordinary shares”) and 9,999,000 non-voting, participating redeemable shares of par value $0.01 each (the “Participating shares”). The authorized capital of the Offshore Feeder may be divided into different classes with varying rights attached to each class. The Participating shares are divided into Class A, Class B and Class C Participating shares (respectively, the “Class A shares”, the “Class B shares”, the “Class C shares”, each a “Class” collectively, the “Shares”).
The Ordinary shares of the Offshore Feeder are held by the Master Fund Special LP (the “Special LP”). The Articles of Association of the Offshore Feeder empowers the Board of Directors (the “Board”) to create different classes of shares.
The Shares are issued in series with a new series being issued on each date that the Offshore Feeder permits subscription for shares. The series are issued consecutively per class (i.e. commencing with A1, B1, C1 etc.). Each of the outstanding series of shares participates rateably with all other outstanding series of the same class in the Offshore Feeder’s fees, expenses, assets and earnings with respect to such series.
The Shares are issued in various series to reflect equitably the differing incentive allocation attributable to each series.
At the end of each quarter or year as applicable, all series that do not have a loss carry forward available to them will be converted into the initial series of the applicable class of Participating shares unless the initial series has a loss carry forward, then the next available series that does
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Aquamarine Fund, Inc.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
not have a loss carry forward shall be used in its place. Certain series may not be subject to the conversion at the discretion of the Board of Directors.
Issued share capital
Ordinary shares1,000 shares at $0.01 par value issued and fully paid.
Participating shares18,246.04 Class A shares at a $0.01 par value issued and fully paid.13,086.57 Class B shares at a $0.01 par value issued and fully paid.22,137.70 Class C shares at a $0.01 par value issued and fully paid.
Dividends and distribution
It is anticipated that the Offshore Feeder will not declare any dividends or make any distributions to its shareholders.
Subscriptions
Shares may generally be subscribed to on the first business day of each month by giving two days written notice, or such other days approved by the Board of Directors in its sole discretion. The initial purchase price per share for each series of shares is $1,000. The minimum initial subscription for shareholders in the Offshore Feeder is $500,000 for Class A/B shares and $1,000,000 for Class C shares. These amounts are subject to reduction at the discretion of the Board of Directors.
Redemptions
Shares will be redeemed at the redemption price equal to such shares’ net asset value (the “NAV”) as of the close of business on the redemption date.
Class A shareholders have the right upon 20 days prior written notice to request a partial or total redemption of its Class A shares as of the last business day of each calendar month or such other day as determined by the Board of Directors.
Class B shareholders have the right upon 60 days prior written notice to request a partial or total redemption of its Class B shares as of the last business day of each calendar quarter or such other date as determined by the Board of Directors.
Class A and B shareholders are subject to a redemption fee of five percent (5%) of the redemption proceeds for redemptions made by a shareholder within the first six months after each subscription. A redemption fee of two percent (2%) will be charged for redemptions made by a Class A and B shareholder, occurring any time following the first six months and preceding the 12-month anniversary of each subscription. The Board of Directors may, in its sole discretion, waive or reduce the redemption fees.
Class C shareholders have the right upon 60 days prior written notice to request a partial or total redemption of its Class C shares as of the last business day of the calendar month on which the Class C lock-up period (defined below) expires, and thereafter, on the last business day of the calendar month on each 12-month anniversary of the expiration of the Class C lock-up period, or such other date as determined by the Board of Directors.
A shareholder may not redeem any series of its Class C shares until the expiration of the 12-month period following the purchase of such series of Class C shares, (the Class C lock-up period), without the prior written consent of the Board of Directors.
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Allocation of net profits and losses
As the Offshore Feeder is made up of more than one class and series of shares, the NAV per share of each class and series is calculated by determining that part of the NAV of the Offshore Feeder attributable to each class and series and dividing this value by the number of shares of that class and series in issue and rounding the result to two decimal places. Any increase or decrease in the NAV of the Offshore Feeder will be allocated between the classes and series based on their pro rata NAVs at the previous valuation date adjusted for any subscriptions and redemptions in the relevant period.
Net asset value per share
The following table summarizes the shares outstanding, the NAV per share and the net asset value for each class of shares and series at the reporting date. Net asset Number of Net asset value value shares per share $ $
Ordinary shares 1,000 1,000.00 1.00
Participating sharesClass AClass A Initial Series 10,514,491 2,207.07 4,764.00Class A Series 1 71,966,292 16,038.97 4,486.96
82,480,783 18,246.04
Class BSeries 1 7,175,455 4,946.57 1,450.59Series 2 126,539 150.00 843.59Series 3 1,257,162 1,500.00 838.11Series 9 8,572,727 6,490.00 1,320.91
17,131,883 13,086.57
Class CSeries 1 20,190,461 10,990.69 1,837.04Series 2 2,120,809 2,500.00 848.32Series 3 172,195 200.00 860.97Series 4 1,755,598 2,000.00 877.80Series 5 850,945 1,000.00 850.94Series 6 856,829 1,000.00 856.83Series 7 82,152 100.00 821.52Series 8 141,507 171.10 827.05Series 9 510,391 600.00 850.65Series 10 71,215 83.32 854.75Series 11 884,635 1,000.00 884.64Series 12 2,022,479 1,964.33 1,029.60Series 13 26,978 28.27 954.43Series 14 486,112 500.00 972.22
30,172,306 22,137.70
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Aquamarine Fund, Inc.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
Share transaction summary Shares Shares Shares Shares issued/ redeemed/ Shares outstanding converted transferred transferred outstanding January 1, during the during the during the December 31, 2015 year year year 2015
Class A Initial Series 2,231.51 - - (24.44) 2,207.07Class A Series 1 16,588.97 - - (550.00) 16,038.97Class B Series 1 5,215.33 - - (268.76) 4,946.57Class B Series 2 - - 750.00 (600.00) 150.00Class B Series 3 - - 1,500.00 - 1,500.00Class B Series 9 6,490.00 - - - 6,490.00Class C Series 1 11,926.97 50.20 - (986.48) 10,990.69Class C Series 2 100.00 (100.00) 2,500.00 - 2,500.00Class C Series 3 400.00 - - (200.00) 200.00Class C Series 4 2,000.00 - - - 2,000.00Class C Series 5 1,000.00 - - - 1,000.00Class C Series 6 1,000.00 - - - 1,000.00Class C Series 7 100.00 - - - 100.00Class C Series 8 171.10 - - - 171.10Class C Series 9 - - 600.00 - 600.00Class C Series 10 - - 83.32 - 83.32Class C Series 11 - - 1,000.00 - 1,000.00Class C Series 12 - - 1,964.33 - 1,964.33Class C Series 13 - - 28.27 - 28.27Class C Series 14 - - 500.00 - 500.00
4. RELATED PARTY TRANSACTIONS AND BALANCES
Management fees
The Offshore Feeder, as a limited partner in the Master Fund, pays a monthly management fee to the Investment Manager who provides the Offshore Feeder with continuous supervision of the Master Fund’s assets, including the composition of its portfolio and furnishes advice and recommendations with respect to investments, investment policies and the purchase and sales of investments in securities and derivatives.
Management fee due to the Investment Manager is recorded in the financial statements of the Master Fund. The amount has been charged to each of the Feeder Funds’ capital accounts in the Master Fund. Management fee is discussed in Note 7 of the Master Fund’s Notes.
For the year ended December 31, 2015, a total management fee of $1,996,984 was incurred and $150,364 is payable at the reporting date by the Master Fund for the Offshore Feeder. The fee is included in the expenses allocated from the Master Fund in the statement of operations.
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Incentive allocation
Incentive allocation to the Master Fund GP and the Special LP are recorded in the financial statements of the Master Fund. The amount is allocated to each of the Feeder Funds’ capital accounts in the Master Fund. Incentive allocation is discussed in Note 7 of the Master Fund’s Notes.
For the year ended December 31, 2015, the incentive allocations to the Master Fund GP and the Special LP from the Offshore Feeder were $1,434 and $8,127 respectively.
Share capital
The Offshore Feeder has related party shareholders inclusive of the Special LP. The shareholdings of these related parties total $82,078,296 and represent approximately 63% of net assets at the reporting date.
5. ADMINISTRATION AGREEMENT
The Master Fund and the Feeder Funds entered into an administration agreement with Prime Management Limited (the “Administrator”) a subsidiary of SS&C GlobeOp for the provision of certain accounting, administrative and investor services.
6. RISKS FACTORS
Due to the nature of the “master/feeder” structure, the Offshore Feeder may be materially affected by the risk factors affecting the Master Fund as discussed in Note 9 of the Master Fund’s Notes.
7. FINANCIAL HIGHLIGHTS
The per share operating performance, total return and ratios to average net assets are calculated for the initial series of each share class. An individual investor’s per share operating performance, total return and ratios to average net assets may vary from these amounts and ratios based on different management fee and incentive allocation arrangements and the timing and amount of capital transactions.
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Aquamarine Fund, Inc.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
The following represents the per share information, total return and ratios to average net assets and other supplemental information for the year ended December 31, 2015: Class A Class B Class CPer share operating performance Initial Series Series 1 Series 1
Net asset value, beginning of the year $5,672.23 $1,727.15 $2,165.50
Income from investment operations Net investment loss (41.94) (12.77) 3.99 Net realized and unrealized gain (866.30) (263.79) (332.44)
from investments
Total gain from investment operations (908.24) (276.56) (328.45)
Net asset value, end of the year $4,763.99 $1,450.59 $1,837.05
Total return before incentive fee (16.01)% (16.01)% (15.17)%Incentive fee - - -
Total return after incentive fee (16.01)% (16.01)% (15.17)%
Ratios to average net assets *
Operating expenses before incentive fee 1.25% 1.25% 0.27%Incentive fee - - -
Operating expenses after incentive fee 1.25% 1.25% 0.27%
Net investment income/(loss) before (0.79)% (0.79)% (0.20)%incentive fee
* The ratios are computed based upon the weighted average net assets of shares as a whole throughout the year.
8. SUBSEQUENT EVENTS
Management has evaluated subsequent events occurring through March 18, 2016, the date that these financial statements were available for issue.
Subsequent to year end, the Offshore Feeder received subscriptions of $250,000 and redemptions of $4,056. There were no other material events subsequent to year end which require disclosure.
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Aquamarine Fund
77
Independent Auditors’ Report 78
Financial Statements For The Year Ended December 31, 2015
Statement of Assets and Liabilities 79
Statement of Operations 80
Statement of Changes in Partners’ Capital 81
Statement of Cash Flows 82
Notes to the Financial Statements 83
Aquamarine Value Fund, L.P.(A DELAWARE LIMITED PARTNERSHIP)
FINANCIAL STATEMENTS
INDEPENDENT AUDITORS’ REPORT
To the General Partner and Limited Partners of
Aquamarine Value Fund, L.P.
We have audited the accompanying financial statements of Aquamarine Value Fund, L.P. (the “Onshore Feeder”) which comprise the statement of assets and liabilities of as of December 31, 2015, and the related statements of operations, changes in partners’ capital and cash flows for the year then ended (all expressed in United States dollars), and the related notes to the financial statements.
Management’s Responsibility for the Financial Statements
Management is responsible for the preparation and fair presentation of these financial statements in accordance with accounting principles generally accepted in the United States of America; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free from material misstatement, whether due to fraud or error.
Auditors’ Responsibility
Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free from material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditors’ judgment, including the assessment of the risks of ma-terial misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the Onshore Feeder’s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Onshore Feeder’s internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Opinion
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Aquamarine Value Fund, L.P. as of December 31, 2015, and the results of its operations, its changes in partners' capital and its cash flows for the year then ended, in conformity with accounting principles generally accepted in the United States of America.
March 18, 2016
Deloitte refers to one or more of Deloitte Touche Tohmatsu Limited, a UK private company limited by guarantee (“DTTL”), its network of member firms, and their related entities. DTTL and each of its member firms are legally separate and independent entities. DTTL (also referred to as “Deloitte Global”) does not provide services to clients. Please see www.deloitte.com/about for a more detailed description of DTTL and its member firms. Deloitte Ltd. is an affiliate of DCB Holding Ltd., a member firm of Deloitte Touche Tohmatsu Limited.
Deloitte Ltd.Chartered Professional AccountantsCorner House20 Parliament StreetP.O. Box 1556 Hamilton HM FXBermuda
Tel: + 1 (441) 292 1500Fax: + 1 (441) 292 0961www.deloitte.bm
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Aquamarine Value Fund, L.P.
STATEMENT OF ASSETS AND LIABILITIESAt December 31, 2015 (Expressed in United States dollars)
ASSETSInvestments in Aquamarine Master Fund, L.P., at fair value $23,285,099Cash and cash equivalents 1,989,597
Total assets 25,274,696
LIABILITIESCapital withdrawals payable 916,718Accrued expenses and other payables 28,870
Total liabilities 945,588
PARTNERS’ CAPITAL $24,329,108
See notes to the financial statements
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See notes to the financial statements
Aquamarine Value Fund, L.P.
STATEMENT OF OPERATIONSFor the year ended December 31, 2015 (Expressed in United States dollars)
Notes
NET INVESTMENT LOSS ALLOCATED FROM AQUAMARINE MASTER FUND, L.P.Income $144,415Expenses 4 (98,515)
45,900
EXPENSESAdministration fee 5 35,375Professional fees 21,874Other expenses 4,660
61,909
NET INVESTMENT LOSS (16,009)
NET REALIZED GAIN AND NET CHANGE IN UNREALIZEDDEPRECIATION ON INVESTMENTS AND FOREIGN CURRENCIESALLOCATED FROM AQUAMARINE MASTER FUND, L.P. Net realized gain on investments and foreign currencies 271,189Net change in unrealized depreciation on investments and foreign currencies (4,592,525)
NET REALIZED GAIN AND CHANGE IN UNREALIZED (4,321,336)DEPRECIATION
NET DECREASE IN PARTNERS’ CAPITAL RESULTING FROM OPERATIONS $(4,337,345)
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See notes to the financial statements
Aquamarine Value Fund, L.P.
STATEMENT OF CHANGES IN PARTNERS’ CAPITALAt December 31, 2015 (Expressed in United States dollars)
General Limited Partners Partners Total
PARTNERS’ CAPITAL,DECEMBER 31, 2014 $307,802 $21,338,699 $21,646,501 INCREASE IN PARTNERS’ CAPITAL:
From operationsNet increase in partners’ capital (57,992) (4,279,353) (4,337,345)
From capital transactionsCapital contributions - 8,901,000 8,901,000Capital withdrawals (249,810) (1,631,238) (1,881,048)
PARTNERS’ CAPITAL, DECEMBER 31, 2015 $ - $24,329,108 $24,329,108
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See notes to the financial statements
Aquamarine Value Fund, L.P.
STATEMENT OF CASH FLOWSFor the year ended December 31, 2015 (Expressed in United States dollars)
CASH FLOW PROVIDED BY/(USED IN):
OPERATING ACTIVITIES:Net decrease in partners' capital from operations $(4,337,345)
Adjustments to reconcile net decrease in partners’ capital resulting from operations to net cash used in operating activities:
Net realized gain from investments allocated from Aquamarine Master Fund, L.P. (271,189) Net change in unrealized depreciation on investments allocated from Aquamarine Master Fund, L.P. 4,592,525 Net investment loss allocated from Aquamarine Master Fund, L.P. (45,900)Payments for purchases of Aquamarine Master Fund, L.P. (6,845,000)Proceeds from sales of Aquamarine Master Fund, L.P. 964,330 Decrease in accrued expenses and other payables (6,449)
Net cash used in operating activities (5,949,028)
FINANCING ACTIVITIES Capital contributions received 6,701,000Capital withdrawals paid, net of changes in capital withdrawals payable (964,331)
Net cash provided by financing activities 5,736,669
NET DECREASE IN CASH AND CASH EQUIVALENTS (212,359)
CASH AND CASH EQUIVALENTS, BEGINNING OF THE YEAR 2,201,956
CASH AND CASH EQUIVALENTS, END OF THE YEAR $1,989,597
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See notes to the financial statements
Aquamarine Value Fund, L.P.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
1. ORGANIZATION AND BUSINESS ACTIVITY
Aquamarine Value Fund, L.P. (the “Onshore Feeder”) was organized as a Delaware Limited Partnership on March 15, 2001 and commenced operations on April 26, 2001.
The Onshore Feeder operates under a “master/feeder” structure, where Aquamarine Master Fund, L.P. (the “Master Fund”), a British Virgin Islands (“BVI”) International Limited Partnership, is the master fund. The Onshore Feeder invests substantially all of its investable assets in the Master Fund, together with Aquamarine Fund, Inc. (the “Offshore Feeder”) a BVI Business Company (collectively, the “Feeder Funds”). At December 31, 2015, the Onshore Feeder’s proportionate interest in the partners’ capital of the Master Fund is approximately 14%.
The investment objective of the Onshore Feeder is to compound wealth for limited partners over the long term. The Onshore Feeder intends to achieve its investment objectives through its investment in the Master Fund, which has the same investment objectives as the Onshore Feeder.
Aquamarine Capital Management, LLC (the “General Partner”), a New York limited liability company is the general partner of the Onshore Feeder, serves as the investment manager to the Offshore Feeder and the Master Fund and is responsible for certain administrative and investment advisory services for the Feeder Funds and the Master Fund. The General Partner is a registered adviser with the Security Exchange Commission (“SEC”) and its principal decision maker is Guy Spier.
Aquamarine Zürich AG (the “Asset Manager”), a Swiss company limited by shares, which is affiliated to the General Partner through common ownership, is sub-contracted by the General Partner to provide asset management services in Switzerland to the Master Fund. On September 21, 2015 the Swiss Financial Market Supervisory Authority (“FINMA”) granted the Asset Manager a license as an Asset Manager for Collective Investment Schemes.
The general partner of the Master Fund, Aquamarine GP Ltd., (the “Master Fund GP”) and the Special Limited Partner of the Master Fund (the “Special LP”) are not affiliates of the General Partner nor the Asset Manager.
The performance of the Onshore Feeder is directly affected by the performance of the Master Fund. The Master Fund utilizes the services of the General Partner to invest the assets of the Onshore Feeder, together with the assets of the Offshore Feeder.
The financial statements of the Master Fund, including the condensed schedule of investments, are included at the end of this report and should be read in conjunction with the Onshore Feeder’s financial statements.
2. SIGNIFICANT ACCOUNTING POLICIES
Basis of preparation
The financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“US GAAP”) and are stated in the United States (“U.S.”) dollars. The following is a summary of the significant accounting and reporting policies used in preparing the financial statements.
Investment Company
The Onshore Feeder is considered an investment company pursuant to Accounting Standards Update No. 2013-08, Financial Services - Investment Companies (Topic 946): Amendments to the
Aquamarine Fund
83
Aquamarine Value Fund, L.P.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2014 (Expressed in United States dollars)
Scope, Measurement and Disclosure Requirements ("ASU 2013-08"), and therefore follows the accounting and reporting guidance for investment companies.
Use of estimates
The preparation of financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts in the financial statements and accompanying notes. Actual results could differ from those estimates and the differences could be material.
Valuation of investment in the Master Fund
The Onshore Feeder records its investment in the Master Fund at fair value based on its respective percentage of the Master Fund’s partners’ capital. Valuation of securities held by the Master Fund is disclosed in Note 2 of the Master Fund’s notes to the financial statements (the “Master Fund’s Notes”).
ASC 820, Fair Value Measurement and Disclosure (“ASC 820”) defines fair value, establishes a framework for measuring fair value and requires certain disclosures about fair value measurements. Additional disclosures due to the impact of ASC 820 on the Onshore Feeder’s underlying investments held within the Master Fund are included in Note 4 of the Master Fund’s Notes.
Cash and cash equivalents
The Onshore Feeder classifies cash at bank and short-term deposits with original maturities of three months or less as cash and cash equivalents.
Revenue and expense recognition
The Onshore Feeder records its proportionate share of the Master Fund’s income, expenses, and realized and unrealized gains and losses. The Master Fund’s income and expenses recognition policies and allocation are discussed in Note 2 of the Master Fund’s Notes.
Income and expenses that are directly attributable to the Onshore Feeder are recorded on the accrual basis as incurred.
Capital withdrawals payable
The Onshore Feeder recognizes capital withdrawals payable in accordance with ASC 480, Distinguishing Liabilities from Equity (“ASC 480”). Capital withdrawals are recognized as liabilities when the amount requested in the capital withdrawals notice becomes fixed. Prior to December 31, 2015, the Onshore Feeder received capital withdrawal notices to be paid after year end but based on December 31, 2015 partners’ capital balances. Within the context of ASC 480, such capital withdrawal notices represent an unconditional obligation of the Onshore Feeder at December 31, 2015. The liability to such partners is presented in the statement of assets and liabilities as “capital withdrawals payable”.
Foreign currency
The books and records of the Onshore Feeder and the Master Fund are maintained in U.S. dollars. The foreign currency translation policy is discussed in Note 2 of the Master Fund’s Notes.
Income taxes
The Onshore Feeder reviews and evaluates tax positions in its major jurisdictions and determines whether or not there are uncertain tax positions that require financial statement recognition. In
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determining the major tax jurisdictions, the Onshore Feeder considers where it is organized and where it makes investments. The Onshore Feeder’s US Federal tax returns for 2012 to 2015 remain open for examination by tax authorities and tax positions associated with foreign tax jurisdictions remain subject to examination based on varying statutes of limitations.
The Onshore Feeder is not aware of any other tax positions for which it is reasonably possible that the total amounts of unrecognized tax benefits will change materially in the next twelve months. The determination of income taxes is based on complex analyses of many factors, including matters that are subject to interpretation.
Individual partners are taxed on their proportionate share of the Onshore Feeder’s income.
3. PARTNERS’ CAPITAL ACCOUNT
The Onshore Feeder is currently offering limited partnership interests (“Interests”), which are defined as partners’ share of the partners’ capital as reflected in each limited partner’s capital account. The Interests are divided into two classes, A and B. The limited partners holding Class A Interests are sometimes referred to herein as “Class A limited partners” and the limited partners holding Class B Interests are sometimes referred to herein as “Class B limited partners”.
As of December 31, 2015, there are Class A and Class B Interests for an amount of $2,521,103 and $21,808,005 respectively.
Capital contributions
The minimum investment in the Onshore Feeder is $500,000 by each Class A limited partner and $1,000,000 for each Class B limited partner. The General Partner may in its discretion waive the minimum initial contribution amount with respect to any partner. Following initial investment, a limited partner may make additional investments in amounts of not less than $50,000, subject to adjustment at the discretion of the General Partner. The General Partner may admit new limited partners and permit limited partners to make additional contributions as of the first business day of each calendar month, or at any other time in the General Partner’s sole discretion.
Capital withdrawals
Class A limited partners may make a complete or partial withdrawal from their capital accounts as of the last day of each calendar quarter, with 60 days’ prior written notice to Prime Management Limited a subsidiary of SS&C GlobeOp (the “Administrator”).
A withdrawal fee of five percent (5%) of the withdrawal amount will be charged for withdrawals made by a Class A limited partner within the first six months after each capital contribution, and two percent (2%) for withdrawals occurring any time following the six (6) months and preceding the twelve (12) month anniversary of each capital contribution.
Additionally, the General Partner, in its sole discretion may permit any Class A limited partner to withdraw all or any portion of its capital account on a day other than the last day of a calendar quarter and/or on less than 60 days prior written notice subject to a withdrawal fee of two percent (2%) of the withdrawal proceeds, together with the initial Class A withdrawal fee.
Class B limited partners may make a complete or partial withdrawal from their capital accounts as of the last business day of the calendar month in which the Class B lock-up period (defined below) expires, upon 60 days prior written notice to the Administrator. Thereafter, a class B limited
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Aquamarine Value Fund, L.P.
NOTES TO THE FINANCIAL STATEMENTSFor the year ended December 31, 2015 (Expressed in United States dollars)
partner may make a withdrawal on the last business day of the calendar month for each 12-month anniversary of the expiration of the Class B lock-up period, or such other date as determined by the General Partner.
Class B limited partners may not withdraw any capital contribution (and any appreciation thereon) until the expiration of the 12-month period following the contribution of such capital, (the Class B lock-up period), without the prior written consent of the General Partner.
The General Partner in its sole discretion may waive or reduce the Class B lock-up period and/or the notice period required for withdrawals by Class B limited partners. Class B limited partners are not subject to withdrawal fees.
Each withdrawing limited partner will receive, at the General Partner’s sole discretion, at least 90% of its estimated withdrawal amount with the balance payable 30 days after the Onshore Feeder’s annual audit. The General Partner may in certain circumstances suspend withdrawals from the capital account of the Onshore Feeder.
Allocation of gains/losses and management fees
At the end of each month, the aggregate amount of management fees payable by the Onshore Feeder during such month which are attributable to each Class A limited partner shall be charged to such Class A limited partner’s capital account, and any net capital appreciation or depreciation will be allocated to all partners (including the General Partner) based on their proportionate share of the Onshore Feeder’s partners’ capital for such month.
4. RELATED PARTY TRANSACTIONS AND BALANCES
Management fees
The Onshore Feeder as a limited partner in the Master Fund pays a monthly management fee to the General Partner (as the Investment Manager of the Master Fund). The management fee is calculated solely on the partners’ capital of Class A limited partners as of the last business day of each calendar month. The Investment Manager provides the Onshore Feeder with continuous supervision of the Master Fund’s assets, including the composition of its portfolio and furnishes advice and recommendations with respect to investments, investment policies and the purchase and sales of investments in securities and derivatives.
Management fee due to the General Partner is recorded in the financial statements of the Master Fund. The amount has been charged to each of the Feeder Funds’ capital account in the Master Fund. Management fee is discussed in Note 7 of the Master Fund’s Notes.
For the year ended December 31, 2015, a total management fee of $45,128 was incurred and $2,158 was payable at the reporting date by the Master Fund for the Onshore Feeder. The fee is included in the expenses allocated from the Master Fund in the statement of operations.
Incentive allocation
Incentive allocation to the General Partner is recorded in the financial statements of the Master Fund. The amount is allocated to each of the Feeder Funds’ capital accounts in the Master Fund. Incentive allocation is discussed in Note 7 of the Master Fund’s Notes.
For the year ended December 31, 2015, there was no incentive allocation to the Master Fund GP from the Onshore Feeder.
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Partners’ capital
The Onshore Feeder has no related party partners at the reporting date.
5. ADMINISTRATION AGREEMENT
The Master Fund and the Feeder Funds entered into an administration agreement with the Administrator as of April 1, 2007 for the provision of certain accounting, administrative and investor services.
6. RISK FACTORS
Due to the nature of the “master/feeder” structure, the Onshore Feeder may be materially affected by the risk factors affecting the Master Fund as discussed in Note 9 of the Master Fund’s Notes.
7. FINANCIAL HIGHLIGHTS
The following financial highlights are calculated for the limited partners taken as a whole and exclude data for the General Partner.
Individual limited partners’ returns will vary due to the timing of contributions and withdrawals, different management fees and incentive allocation arrangements. The incentive allocation is borne by the Master Fund.
Total returnTotal return before incentive allocation (14.95)%Incentive allocation -
Total return after incentive allocation (14.95)%
Ratio to average limited partners’ capital*Operating expenses before incentive allocation 0.61%Incentive allocation -
Operating expenses after incentive allocation 0.61%
Net investment income before incentive allocation 0.06%
*Ratios of operating expenses and net investment loss are computed based on the monthly average of the partners’ capital of all limited partners for the year.
8. SUBSEQUENT EVENTS
Management has evaluated subsequent events occurring through March 18, 2016, the date that these financial statements were available for issue.
Subsequent to year end, the Onshore Feeder received contributions totalling $1,800,000 and had no withdrawals. There were no other material events subsequent to year end which require disclosure.
Aquamarine Fund
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GUY SPIER, Managing Partner
OFFICE TEAM
Orly Hindi, Investor Relations and Chief Compliance Officer, New YorkLynda Brandt, Events & Administration, ZurichDavid Jud, Administrative Assistant
DIRECTORS
Simon Spier, LondonMark Chapman, British Virgin Islands
AUDITOR
Deloitte Ltd., Bermuda
BROKERS AND CUSTODIANS
UBS, ChicagoInteractive Brokers, ConnecticutCredit Suisse, Zug Northern Trust, Dublin
GENERAL COUNSEL
Bratschi Wiederkehr & Buob, ZurichDentons, New YorkAppleby, British Virgin Islands
TAX, ACCOUNTING AND ADMINISTRATION
Prime Management Limited, Bermuda(Aquamarine Master Fund, L.P., Aquamarine Fund, Inc., andAquamarine Value Fund, L.P.)
Michael J. Liccar & Co., LLC, Chicago(K1’s, US Tax accounting)
Prime Management Limited/ SS&C GlobeOpLorna Nicolas-Bernier Jonathan GazzardShawn Jezard Terry Ewart Patti GriffinJohn Whiley Melanie Simons
Deloitte Ltd.Mark Baumgartner Tia Beckmann Tonya GuishardLennesha Morgan
UBS, The Desai GroupAjay DesaiTim DillowRandy Bruns Frank Pellicori Andrew Lindblom James StirlingMelissa J Wilczak
Credit SuisseRaphael HuberStefan HuerzelerLivio Bühler
Bratschi Wiederkehr BuobThomas Iseli Ingmar Snijders
Michael J. Liccar & Co., LLCPaul J. JacobazziBecky Busuttil
DentonsWalter Van Dorn Curtis Stefanak John L. Harrington
Appleby, British Virgin IslandsNadia MenezesChloe HarrisJeffrey Kirk
TeamAquamarine
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Editor: William Green | Designer: Cecelia Wong
Aquamarine Capital Management LLC1345 Avenue of the Americas, 2nd FloorNew York, NY 10105, United States T + 1 212 716 1350F + 1 212 716 1353
www.aquamarinefund.com
Aquamarine Zürich AGRämistrasse 188001 Zürich, SwitzerlandT + 41 44 210 19 00F + 41 44 210 19 01
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